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Symposium 2010

Proposal - Escaping the Informal-Employment Trap in Developing Countries

The Challenge

Informality of employment is a way of life throughout the developing world. In poor Sub-Saharan African countries, the informal sector employs the vast majority of the nonagricultural labour force ...

Informality of employment is a way of life throughout the developing world. In poor Sub-Saharan African countries, the informal sector employs the vast majority of the nonagricultural labour force. Informal jobs continue to account for a high share of employment in the middle-income Latin American countries, The global economic crisis is likely to cause a further surge of informal employment because of job losses in the formal sector.

Informal employment can be the result of both people being excluded from formal jobs and people voluntarily opting out of formal structures. To deal with these distinct phenomena, a carefully targeted government response is needed.

For the world's poor, working informally is often the only way to participate in the labor market. Poverty-alleviation measures that provide improved risk management and social protection should be employed to address the hardship of these people. At the same time, governments should try to unlock them from their low-productivity activities. Specific options include active labor market policies, such as training and skill-development programs, which may open the door to formality.

If informal employment is a deliberate choice to avoid taxes or administrative burdens, as is often the case in Latin America, governments should aim to establish efficient formal structures that have the potential to encourage people to join or rejoin the formal sector. In most countries' tax systems, for example, there is scope for reducing administrative costs and increasing collections through changes in tax structure, combining reductions in marginal tax rates with the elimination of exemptions. Lower barriers to the registration of formal businesses and a better alignment of social security contributions and benefits would be other means to raise the attractiveness of the formal sector.

Apart from providing positive incentives, targeting those who voluntarily opt out of the formal sector also requires the establishment of credible enforcement mechanisms so as to increase compliance with a country's rules and regulations. This would include regular labor inspections and tax audits.

While policies can go a long way towards overcoming widespread informal employment, they are no substitute for trust. Informality is above all an expression of a negative perception of the role of the state. Long-term sustainable change therefore requires credible public institutions, such as impartial courts and transparent tax authorities, as well as a transformation of people's attitudes and beliefs. The latter may be facilitated by information campaigns on the benefits of formal work and the risks of informality.

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