The Impact of Bank Credit on Employment Formality: Evidence from Uruguay

ABSTRACT

This article examines the effect of bank credit on employment formalization in Uruguay. Using a difference-in-differences methodology the article finds that financial deepening decreases informality, especially in more financially dependent sectors. In addition, the effect is found to be greater among women and older workers. In the period under analysis the economy underwent a severe economic crisis and bank credit contracted sharply, but we find no evidence that the effect of bank credit on employment formality changed over time.

KEY WORDS:

• credit market
• informality
• Uruguay

Acknowledgements

The authors thank Luis Catão and Paulo Bastos for helpful comments and suggestions and Juan Alberti and Diego Lamé for their research assistance. All errors and omissions are the authors’ sole responsibility. The opinions expressed in this article are those of the authors and do not necessarily reflect the views of the Inter-American Development Bank or its Board of Directors, or the countries they represent.

Notes

1. Levine (1997) and Beck et al. (2000).

2. Levy (2008); Perry et al. (2007); La Porta and Shleifer (2009).

3. There is literature about the conditions under which parameters can be consistently estimated given with pseudo-panel instead of real panel data. See for instance Deaton (1985).

4. For a similar definition of the units of observation in this journal see Yang and Liou (2013).

5. Assuming that informal activities have to be carried out in cash, some authors have measured the size of the informal sector from money demand in “excess” of fundamentals. This is not an appropriate method for this article since it does not allow sector-based measures of informality to be constructed.

6. The aguinaldo is a thirteenth month bonus salary that Uruguayan workers receive by law, half of it in June and half in December.

7. Court et al. (2013) in this journal also use credit to GDP as their proxy for financial deepening.

8. We thank Luis Catão for providing a new computation of the Rajan-Zingales index for us that they are using in revising their manuscript.

9. The two larger dropped sectors are: agriculture and domestic workers since each employ more than 10 percent of working adults; forestry and financial services employs 1 percent each. The others are: fishing, fish hatcheries and farms; insurance and pension funding; activities auxiliary to financial services; research and development; compulsory social security, and activities of membership organizations NEC (not classified elsewhere)

10. For a study of credit booms and contractions in emerging economies see Elekdag and Wu (2013).

11. See Gandelman and Rasteletti (2013) for evidence for Uruguay.