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The Returns to Formality and Informality in Urban Africa

  • Francis Teal
  • Justin Sandefur

This paper addresses the question as to why we observe such large differentials in earnings in urban African labour markets after controlling for observable human capital.� We first use a three year panel across Ghana and Tanzania and find common patterns for both countries assuming that movement between occupations is exogenous.� Unobserved individual market ability is by far the most important factor explaining the variance of earnings.� Sector differences do matter even with controls for ability and the sectoral gap between private wage employment and civil servants is about 50 per cent, once we control for unobserved time-invariant factors.� Wage earners earn the same as the self-employed in both Ghana and Tanzania.� An additional important aspect of formality is enterprise size.� At most half of the OLS effect�of size on earnings can be explained by unobservable ability.� Workers in largest firms are the high earners with wage rates which exceed those of civil servants.� We then use an extension of the Ghana panel to five years to assess the extent of possible biases from the assumption of exogenous movement.� We find evidence that this is important and that OLS may be understating the extent of both the size effect and the private sector wage (negative) premium.� The implications of�our results for understanding the nature of formal and informal employment in Africa are discussed.

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Paper provided by University of Oxford, Department of Economics in its series Economics Series Working Papers with number CSAE WPS/2010-03.

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Date of creation: 01 Feb 2010
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Handle: RePEc:oxf:wpaper:csae-wps/2010-03
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  1. Richard Blundell & Steve Bond, 1995. "Initial conditions and moment restrictions in dynamic panel data models," IFS Working Papers W95/17, Institute for Fiscal Studies.
  2. Francis Teal & Geeta Kingdon & Justin Sandefur, 2005. "Labor Market Flexibility, Wages and Incomes in sub-Saharan Africa in the 1990s," Economics Series Working Papers GPRG-WPS-030, University of Oxford, Department of Economics.
  3. Fields, Gary S., 1975. "Rural-urban migration, urban unemployment and underemployment, and job-search activity in LDCs," Journal of Development Economics, Elsevier, vol. 2(2), pages 165-187, June.
  4. Dale T. Mortensen, 2005. "Wage Dispersion: Why Are Similar Workers Paid Differently?," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262633191, June.
  5. Soderbom, Mans & Teal, Francis & Wambugu, Anthony, 2005. "Unobserved heterogeneity and the relation between earnings and firm size: evidence from two developing countries," Economics Letters, Elsevier, vol. 87(2), pages 153-159, May.
  6. John M. Abowd & Francis Kramarz & David N. Margolis, 1994. "High Wage Workers and High Wage Firms," NBER Working Papers 4917, National Bureau of Economic Research, Inc.
  7. Måns Söderbom & Francis Teal, 2004. "Size and Efficiency in African Manufacturing Firms:Evidence from Firm-Level Panel Data," Development and Comp Systems 0409010, EconWPA.
  8. David Roodman, 2007. "A Note on the Theme of Too Many Instruments," Working Papers 125, Center for Global Development.
  9. Jolliffe, Dean, 1998. "Skills, Schooling, and Household Income in Ghana," World Bank Economic Review, World Bank Group, vol. 12(1), pages 81-104, January.
  10. Pierella Paci & Pieter Serneels, 2007. "Employment and Shared Growth : Rethinking the Role of Labor Mobility for Development," World Bank Publications, The World Bank, number 6765.
  11. Måns Söderbom & Francis Teal & Anthony Wambugu & Godius Kahyarara, 2003. "The Dynamics of Returns to Education in Kenyan and Tanzanian Manufacturing," CSAE Working Paper Series 2003-17, Centre for the Study of African Economies, University of Oxford.
  12. Justin Sandefur & Pieter Serneels, 2006. "African poverty through the lens of labor economics: Earnings & mobility in three countries," Economics Series Working Papers GPRG-WPS-060, University of Oxford, Department of Economics.
  13. Psacharopoulos, George, 1994. "Returns to investment in education: A global update," World Development, Elsevier, vol. 22(9), pages 1325-1343, September.
  14. Amartya K. Sen, 1966. "Peasants and Dualism with or without Surplus Labor," Journal of Political Economy, University of Chicago Press, vol. 74, pages 425.
  15. Michael Clemens & Samuel Bazzi, 2009. "Blunt Instruments: On Establishing the Causes of Economic Growth," Working Papers 171, Center for Global Development.
  16. Arellano, Manuel & Bond, Stephen, 1991. "Some Tests of Specification for Panel Data: Monte Carlo Evidence and an Application to Employment Equations," Review of Economic Studies, Wiley Blackwell, vol. 58(2), pages 277-97, April.
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