Human capital and labor informality in developing countries

Available from: 
October 2013
Paper author(s): 
Italo Lopez Garcia (University College London)

This paper studies the relationship between human capital accumulation, labor informality and self-employment in a developing country setting, characterized by high levels of labor informality. I design and estimate a structural dynamic life-cycle model which links schooling attendance, wages and job sector in an explicit manner: the individual chooses whether to work in the informal rather than in the formal sector and whether to be self-employed or not according to her comparative advantage for one particular type of job sector. This is consistent with multiple evidence from developing countries that workers self-select into informality. While there exists wide evidence that more educated individuals have higher probability of holding a formal job, no author has considered that the choice of how much education to gain may be itself influenced by the expected gains to formality. Moreover, there may be other type of sector-specific skills that determine and individual''s comparative advantage, as for example, her entrepreneurial ability. I incorporate these two features in a model of human capital accumulation and labor market participation choice in the fashion of Keane and Wolpin (1997) and Attanasio, Meghir and Santiago (2010). In the model skills will be distinguished into schooling, sector specific labor experience and other unobserved skills, and individuals make their choices depending on both monetary and non-monetary expected benets. Finally, I use structural estimated parameters to assess the potential benefits of an hypothetical reduction in college subsidies on the rates of informality, and the long-term effects of a recently implemented youth employment subsidy on the size of the informal sector. Preliminary estimates show that a reduction of 20% of college tuition fees reduces informality only by 1%


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Research section: 
Lacea 2013 annual meeting
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