While optimism about a European recovery has spread through financial markets this year, the outlook for the 18.5m unemployed people in the eurozone has scarcely improved. Many economists fear that the financial crisis has left a permanent scar on Europe’s labour market, raising the level of so-called structural unemployment — the level of joblessness the economy can tolerate without a rise in inflation. This would mean that the unemployment rate will stay high even after the region’s economy returns to health.

The OECD estimates that the level of structural unemployment in the 15 eurozone countries that are also OECD members has risen from about 8.5pc to 10pc. Its concerns about rising structural unemployment are shared by ILO economists and in the private sector.

“The outlook has to be bleak,” says Daniel Gros, director for the Centre for European Policy Studies.

Higher structural unemployment would prove particularly troubling in a region on the verge of dramatic demographic shifts, with economists warning that the currency bloc will find it hard to pay for its aging population.

Despite signs of a eurozone recovery, economists fear the crisis has left a permanent scar on the continent’s job market

Yet it has been young people who have been hit hardest. The ILO says that, of the 1.6m people who were thrown out of work in Greece, Ireland and Portugal between 2007 and 2012, three quarters were aged between 15 and 34. In Greece and Spain, more than half of those under 25 seeking work are without it. In Italy, four out of 10 young people are unemployed.

To tackle youth unemployment, the EU has set up a Youth Guarantee, which aims to ensure all people under 25 get a good quality job offer within four months of leaving education or losing their job.

The government and regional schemes that have been launched in an effort to address the problem have yielded some results. Among those who have benefited are Pedro Ferraz da Costa and his employees.

Mr Ferraz da Costa owns and runs a family pharmaceuticals business in Portugal, employing 230 people. Iberfar lost a tenth of its staff during the financial crisis but he has just started hiring again. “It really cheers up the mood of a company to see new young faces in the canteen,” he says.

Iberfar is not the only Portuguese company to be taking on new staff. After three years of deep recession and record jobless figures in the country, employment has been edging upwards for almost a year. But while there are similar signs of the job market picking up in the rest of Europe’s periphery - in May, the number of unemployed fell by 28,000 - there are growing concerns that rigid labour markets, a lack of suitable skills and excessive bureaucracy will keep a cap on any improvement.

“Global companies have a choice of where to invest,” says Neil Carberry, director for employment and skills at the CBI employers’ organisation in London. “When they look at some of continental Europe and ask, ‘would I create a job in this market if I don’t have to?’, the answer is often ‘not necessarily’. They are put off by the complex web of legislation.”

In Portugal, where more than a third of under-25s are out of work, attempts to reform the labour market have had mixed results.

Mr Ferraz da Costa says his business has benefited from state initiatives. More than 20 of Iberfar’s workers were taken on under a scheme in which the government pays 80pc of their wages (of about 650 euros a month) for a year, in return for training and work experience.

“It’s a good system that gives both sides a chance to evaluate each other,” he says. “Of the young people who have finished a year with us so far, we have kept on 70pc.”

But Mr Ferraz da Costa, a long-serving former head of the Confederation of Portuguese Industry, is scathing about other reforms to the labour market introduced as part of Portugal’s three-year bailout programme.

He sees the IMF-EU bailout, from which the country exited in May, as a missed opportunity to establish a ‘more co-operative system’ governing labour relations. It still remains ‘almost impossible’ to dismiss individual workers, he says.Employers elsewhere in Europe express similar frustration.

Such disincentives to hiring have been compounded by a lack of labour-force mobility in Europe. Although there have been well-documented rises in the number of migrants from Spain and Portugal seeking jobs in Germany or the UK, economists argue that the number of workers moving to more prosperous parts of the region is still too low.

“The euro area lacks an integrated labour market,” says Andrew Benito, economist at Goldman Sachs. “Even the increase in migration largely reflects just how extremely weak peripheral labour markets have got.”

The OECD has called for more investment in education as a way to improve employment prospects. “Upgrading skills is particularly important for countries that are catching up or have failed to do so in the past,” the organisation said in February.

Companies confirm that employment growth in some sectors of Europe’s economy, such as information technology, is being held back by a skills shortage. Ireland’s unemployment rate has fallen steadily over the past two years. In part, this is down to people leaving the labour market — either by emigrating or returning to education. However, the fall is also down to more companies hiring in the country, which benefits from a low corporate tax rate, labour market flexibility and a stream of English-speaking graduates. But still businesses cannot find the workers they need.

Shane Blake is in charge of human resources at the Irish headquarters of ACI Worldwide, a fast-growing Florida-based multinational that provides banking and payments software. He says ACI chose to establish offices in Limerick because of Ireland’s deep talent pool. Even so, he struggles to find staff with the right skills.

“There is a lot of competition for talented software engineers in Ireland,” says Mr Blake. “Labour regulations are not an issue for us in Ireland but getting work permits for the people we want can be.”

As the Irish experience shows, different European countries face very different challenges in reducing unemployment.

Mr Gros, of the Centre for European Policy Studies, divides the eurozone’s labour markets into three groups. In the first are countries such as Germany and Austria, where labour markets have been relatively untroubled by the crisis and unemployment hovers around 5pc.. Then there is the eurozone’s periphery, where unemployment has skyrocketed to about a quarter of the labour force. The third includes countries such as France and Italy, where the crisis has highlighted structural impediments to increasing employment.

“In the first group, employment is pretty much near maximum levels,” says Mr Gros. “In the second, there are signs that the imbalances are being corrected but it will take a while. In the third, the crisis has revealed some deep-seated problems that have yet to be dealt with.”

Chief among these is labour market rigidity. “Above all, reforms need to help the unemployed compete for jobs of the employed,” says Mr Benito. “Reducing the differences between permanent and temporary contracts is a good way of doing that.”

While there have been signs of increased wage flexibility in countries such as Spain, others remain inflexible. “In Italy, you have a very large group that is very well protected, and others that have no protection at all,” says Mr Gros.

Mr Carberry says: “In much of continental Europe there is a real insider/outsider problem in the labour market. You are either in the labour market protected by the trade unions or you are outside in the long list of unemployed.”

Trade unions reject this. “We don’t believe it is rigidities in the labour market behind the weakness in the job market but the weakness of the economic recovery,” says Ronald Janssen, economic adviser at the European Trade Union Confederation. “Labour market reforms in Europe have made it easier for companies to fire staff. We doubt whether [reforms] have facilitated job creation. Even if you do create jobs, they are insecure, and insecure workers do not spend as much as secure workers.”

“The crisis has gone on so long that people are exiting the labour force who have lost hope to find another job,” says Ekkehard Ernst, chief macro­economist in the ILO’s research wing.

One of the most important measures introduced in March by Matteo Renzi, Italy’s prime minister, was a decree aimed at giving more flexibility to the labour market by allowing companies to hire 20pc of their workforce for up to three years, instead of 12 months, on rolling short-term contracts, writes Sarah Gordon. Although trade unions called for the decree to be rescinded, the Italian business community welcomed the move.

“The proposal to extend temporary contracts to three years will help a lot,” says Massimo Lupi, an employment lawyer. “As of now, you have to provide significant reasons for terminating a temporary contract, and if you fail, it is transformed into a permanent one. This frightens Italian entrepreneurs.”

But businesses said there were many other measures needed to improve the environment for hiring, particularly on rules governing dismissal and reducing the cost of labour for employers.

Additional reporting by Vincent Boland in Dublin

Published in Dawn, Economic & Business, July 14th, 2014