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Unemployment Compensation and the Allocation of Labor in Developing Countries

Author

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  • Charlot, Olivier

    (University of Cergy-Pontoise)

  • Malherbet, Franck

    (CREST (ENSAE))

  • Ulus, Mustafa

    (Galatasaray University)

Abstract

This paper studies the effects of the introduction of unemployment compensation (UC) in countries characterized by pervasive informality. We provide a simple framework to analyze the impact of UC on the allocation of workers between formal and informal activities, as well as the allocation of workers between sectors featuring different incentives to go informal. We show that a reasonable amount of UC may reduce informality, while larger amounts of UC induce large disincentives to go formal because of the level of taxation involved. We also argue that the financing of UC should be part and parcel of a well- conceived UC system. We show that UC finance based on payroll taxes is likely to entail an excess level of informality resulting from cross-subsidies between heterogenous sectors. The introduction of a simple layoff tax meant to finance the UC system is then shown to reduce informality, hence highlighting how a well-designed financing scheme may be used as a supplementary instrument to curb informality.

Suggested Citation

  • Charlot, Olivier & Malherbet, Franck & Ulus, Mustafa, 2013. "Unemployment Compensation and the Allocation of Labor in Developing Countries," IZA Discussion Papers 7233, Institute of Labor Economics (IZA).
  • Handle: RePEc:iza:izadps:dp7233
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    Cited by:

    1. Yassin, Shaimaa & Langot, François, 2018. "Informality, public employment and employment protection in developing countries," Journal of Comparative Economics, Elsevier, vol. 46(1), pages 326-348.
    2. Vargas Juliana Mesén & Linden Bruno Van der, 2019. "Why Cash Transfer Programs Can Both Stimulate and Slow Down Job Finding," IZA Journal of Labor Economics, Sciendo & Forschungsinstitut zur Zukunft der Arbeit GmbH (IZA), vol. 8(1), pages 1-27, June.
    3. Docquier, Frédéric & Iftikhar, Zainab, 2019. "Brain drain, informality and inequality: A search-and-matching model for sub-Saharan Africa," Journal of International Economics, Elsevier, vol. 120(C), pages 109-125.
    4. Mesén Vargas, Juliana & Van der Linden, Bruno, 2017. "Is There Always a Trade-off between Insurance and Incentives? The Case of Unemployment with Subsistence Constraints," IZA Discussion Papers 11034, Institute of Labor Economics (IZA).
    5. Flórez, Luz A., 2017. "Informal sector under saving: A positive analysis of labour market policies," Labour Economics, Elsevier, vol. 44(C), pages 13-26.
    6. Kuralbayeva, Karlygash, 2018. "Unemployment, rural-urban migration and environmental regulation," LSE Research Online Documents on Economics 76561, London School of Economics and Political Science, LSE Library.
    7. Luz Adriana Flórez, 2014. "Optimal Policy with Informal Sector and Endogenous Savings," Borradores de Economia 833, Banco de la Republica de Colombia.
    8. Luz Adriana Florez, 2015. "The Search and Matching Equilibrium in an Economy with an Informal Sector: A Positive Analysis of Labour Market Policies," Revista Desarrollo y Sociedad, Universidad de los Andes – Facultad de Economía – CEDE, August.
    9. Nakabayashi, Masaki, 2019. "From family security to the welfare state: Path dependency of social security on the difference in legal origins," Economic Modelling, Elsevier, vol. 82(C), pages 280-293.

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    More about this item

    Keywords

    labor market imperfections; unemployment compensation; informality;
    All these keywords.

    JEL classification:

    • E24 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Employment; Unemployment; Wages; Intergenerational Income Distribution; Aggregate Human Capital; Aggregate Labor Productivity
    • E26 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Informal Economy; Underground Economy
    • J60 - Labor and Demographic Economics - - Mobility, Unemployment, Vacancies, and Immigrant Workers - - - General
    • L16 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Industrial Organization and Macroeconomics; Macroeconomic Industrial Structure
    • O1 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development

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