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Informality Traps

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Author Info

  • Yusufcan Masatlioglu

    (University of Michigan)

  • Jamele Rigolini

    (The World Bank)

Abstract

Despite large deregulation efforts, informal economic activity still represents a large share of GDP in many developing countries. In this paper we look at incentives to reduce informal activity when capitalists in the formal sector regulate entry. We consider a dual economy with a formal sector employing educated workers and an informal sector with unskilled workers. We show that high costs of education make labor migration and profits in the formal sector an increasing function of its size. Therefore, incentives to allow capital to be reallocated to the formal sector increase with the size of the formal economy, and unless the formal sector has reached a "critical mass" countries remain in a highly informal equilibrium. We conclude by reviewing policies that can push countries with large informal economies towards formalization.

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File URL: http://www.bepress.com/cgi/viewcontent.cgi?article=2055&context=bejeap
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Bibliographic Info

Article provided by De Gruyter in its journal The B.E. Journal of Economic Analysis & Policy.

Volume (Year): 8 (2008)
Issue (Month): 1 ()
Pages: 51

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Handle: RePEc:bpj:bejeap:v:8:y:2008:i:1:n:51

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Web page: http://www.degruyter.com

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Web: http://www.degruyter.com/view/j/bejeap

Related research

Keywords: informal sector; traps; two-sector economy;

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Cited by:
  1. James Albrecht & Lucas Navarro & Susan Vroman, 2006. "The Effects of Labor Market Policies in an Economy with an Informal Sector," Working Papers gueconwpa~06-06-06, Georgetown University, Department of Economics.
  2. Loayza, Norman V. & Rigolini, Jamele, 2011. "Informal Employment: Safety Net or Growth Engine?," World Development, Elsevier, vol. 39(9), pages 1503-1515, September.
  3. Daniel Mejía & Carlos Esteban Posada, 2007. "Informalidad: teoría e implicaciones de política," BORRADORES DE ECONOMIA 004024, BANCO DE LA REPÚBLICA.
  4. Nicoletta Batini & Young-Bae Kim & Paul Levine & Emanuela Lotti, 2009. "Informal Labour and Credit Markets: A Survey," School of Economics Discussion Papers 0609, School of Economics, University of Surrey.
  5. Unal Zenginobuz & Sumru Altug, 2009. "What has been the Role of Investment in Turkey's Growth Performance?," Working Papers 2009/02, Bogazici University, Department of Economics.
  6. Erol Taymaz, 2009. "Informality and Productivity: Productivity Differentials between Formal and Informal Firms in Turkey," ERC Working Papers 0901, ERC - Economic Research Center, Middle East Technical University, revised Mar 2009.

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