Working and Saving Informally: The Link between Labor Market Informality and Financial Exclusion

The high level of informality and the low level of savings observed in developing countries are fundamentally linked because informal workers have limited access to formal financial institutions. We study this link by developing and estimating a labor market model where workers can be employed both formally and informally and agents can save through both formal and informal financial institutions. We estimate the model on nationally representative data for Colombia and use the estimated model to simulate counterfactual experiments. Results show that reaching full financial inclusion of informal workers would increase savings by 3% a month and formal assets by 21%. The same policy would strongly decrease inequality in assets and mildly decrease inequality in consumption.