Government Effectiveness and Regional Variation in Informal Employment

Abstract

This article analyses the role of government effectiveness in the determination of informal employment. A theoretical model is developed, in which local governance and worker skill level are assumed to influence the decision of the worker whether to seek employment in the formal or informal sectors. The model is assessed empirically using data from Brazil, where almost half of the urban labour force is employed informally. The empirical analysis supports the predictions of the model and suggests that the probability of a worker being employed informally is lower in regions with better governance and higher average education.

Acknowledgements

I wish to thank Sonja Opper, at Lund University, and David Fairris, at University of California, Riverside, for helpful discussions throughout the work with this article.

Notes

1. The assumption that the probability of finding a job in the formal sector depends on worker skill stems back to Fields (1975), who assumes that workers are employed in the ‘murky’ (informal) sector while searching for jobs in the urban (formal) sector.

2. Self-employed workers do not receive labour income from an employer, but get paid for their production of goods and services. For simplicity, assume that production among self-employed is given by q = L^IS (s) and that the price of output equals one.

3. Both in Figure 1 and Figure 2 the parameters α and β are assumed, for simplicity, to sum to 1; hence the linearity of y^FS .

4. Henley et al. (2009) provide an analysis of three alternative measures of informal employment in Brazil, using the PNAD survey. The definition used here corresponds to a large extent to their measure of informality defined as ‘no signed labour card’.

5. As noted by Langbein and Knack (2010), the six Worldwide Governance Indicators show bivariate correlations between 0.64 and 0.91.

6. This is discussed as part of several robustness checks in the Online Appendix.

Additional information

Notes on contributors

Erik Jonasson

An Online Appendix is available for this article which can be accessed via the online version of this journal available at http://dx.doi.org/10.1080/00220388.2011.615922