This paper uses a two-step Markov-switching error correction model to determine the impact of government employment on the labour market in Barbados, a small island developing Caribbean state. The results suggest that there is partial crowding out, as public sector hiring reduces private employment but the net impact of unemployment is negative. These findings hint that there may be some merit in a countercyclical employment policy in SIDS. In addition, the results suggest that the tax and debt expense are two channels through which crowding out can occur.