How Does Decentralised Minimum-Wage Setting Affect Unemployment and informality? The Case of Indonesia

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How Does Decentralised Minimum-Wage Setting Affect Unemployment and informality? The Case of Indonesia

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Margherita Comola
Luiz de Mello

Abstract

The Indonesian labour market is characterised by widespread informality. To some extent, these outcomes can be attributed to a sharp increase in the real value of the minimum wage since 2001, when minimum-wage setting was decentralised to the provincial governments. To test this hypothesis, this paper uses survey data on the labour market (Sakernas), household income and expenditure (Susenas) and the industrial sector (Survei Industri) to construct a district-level dataset spanning the period 1996 to 2004. The effects of changes in the minimum wage on unemployment, formal-sector employment and the incidence of informality in urban areas are estimated separately by fixed effects and jointly by a seemingly unrelated regression (SUR) estimator. Our findings show that an increase in the minimum-to-mean wage ratio is associated with a net increase in employment: a rise in informal-sector employment more than compensates for job losses in the formal sector. This Working Paper relates to the 2008 OECD Economic Assessment of Indonesia (www.oecd.org/eco/surveys/indonesia).

Comment la décentralisation de la fixation du salaire minimum affecte le chômage et l’informalité ? L’expérience de l’Indonésie
Le marché du travail indonésien est caractérisé par une importante informalité. Dans une certaine mesure, ces résultats peuvent être attribués à une forte augmentation de la valeur réelle du salaire minimum depuis 2001, quand la fixation du salaire minimum a été décentralisée vers les provinces. Pour tester cette hypothèse, ce document utilise les données des enquêtes sur le marché du travail (Sakernas), sur les revenus et les dépenses des ménages (Susenas) et sur le secteur industriel (Survei Industri) pour construire une base de données au niveau des administrations locales pour la période entre 1996 et 2004. Les effets de l’évolution du salaire minimum sur le chômage, sur l’emploi du secteur formel et sur l’informalité urbaine sont estimés séparément par un modèle à effets fixes et conjointement par SUR. Nos résultats suggèrent qu’une augmentation du ratio salaire minimum/salaire moyen entre 1996 et 2004 est accompagnée d’une nette augmentation de l’emploi : une augmentation de l’emploi du secteur informel a plus que compensé les pertes d’emploi du secteur formel. Ce Document de travail se rapporte à l’Évaluation économique de l’OCDE de l’Indonésie, 2008 (www.oecd.org/eco/etudes/indonesie).

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Paper provided by OECD, Economics Department in its series OECD Economics Department Working Papers with number 710.

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Date of creation: 08 Jul 2009
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Handle: RePEc:oec:ecoaaa:710-en

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Find related papers by JEL classification:
J23 - Labor and Demographic Economics - - Demand and Supply of Labor - - - Labor Demand
J31 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Wage Level and Structure; Wage Differentials
J64 - Labor and Demographic Economics - - Mobility, Unemployment, and Vacancies - - - Unemployment: Models, Duration, Incidence, and Job Search

This paper has been announced in the following NEP Reports:

NEP-ALL-2009-07-28 (All new papers)
NEP-DEV-2009-07-28 (Development)
NEP-LAB-2009-07-28 (Labour Economics)
NEP-SEA-2009-07-28 (South East Asia)

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