In order to remain competitive, firms need to keep the quantity and composition of jobs close to optimal for their given output. Since the beginning of the transition period, Russian industrial firms have been widely reporting that the quantity and composition of hired labour is far from being close to optimal. This paper discusses what kinds of firms in the Russian manufacturing sector are unable to optimize their employment and why. The main conclusion is that the key issue is an excess of non-viable firms and a shortage of highly efficient firms because of weak selection mechanisms. The major solution is seen in creating institutional conditions that stimulate a more efficient reallocation of labour. The analysis presented in this paper is based on data from a large-scale survey of Russian manufacturing firms.