Co-Authors: V. Bassi, I. Rasul, O. A. Veroux
Labor idleness is pervasive in small firms in developing countries, yet its causes and consequences remain poorly understood. Using a novel five-year panel of over 1,000 firms in Uganda, we document that firms face substantial and hard-to-predict demand, that capital and labor adjustment costs are large, and that labor utilization is low.
Firms with more uncertain demand exhibit lower utilization and invest less in on-the-job training. Guided by these facts, we develop a model of firm input and training choices under demand uncertainty. A key mechanism is that training is a fixed investment paid upfront, while workers are paid piece-rates only when utilized, so higher demand uncertainty lowers expected utilization and reduces the returns to training. We estimate the model, identifying key parameters via a field experiment offering firms a wage subsidy to recruit and train an additional worker.
Counterfactual simulations show that reducing demand uncertainty raises hiring and training nearly as much as lowering training costs directly, and that the effectiveness of typical development policies to stimulate firm size, productivity and growth - such as capital grants, management training, and market access interventions - all depend critically on the uncertainty of demand firms face. Our findings highlight a novel demand-side mechanism limiting human capital accumulation, firm size, and the effectiveness of firm-targeted policies in low-income settings.