| Abstract: |
It is widely believed that the presence of a large informal sector increases
the efficiency cost of social programs -- transfer and social insurance
programs -- in developing countries. We evaluate such claims for policies that
have been heavily studied in countries with low informality -- increases in
unemployment insurance (UI) benefits. We introduce informal work opportunities
into a canonical model of optimal UI that specifies the typical tradeoff
between workers' need for insurance and the efficiency cost from distorting
their incentives to return to a formal job. We then combine the model with
evidence drawn from comprehensive administrative data to quantify the
efficiency cost of increases in potential UI duration in Brazil. We find
evidence of behavioral responses to UI incentives, including informality
responses. However, because reemployment rates in the formal sector are low to
begin with, most beneficiaries would draw the UI benefits absent behavioral
responses, and only a fraction of the cost of (longer) UI benefits is due to
perverse incentive effects. As a result, the efficiency cost is relatively
low, and in fact lower than comparable estimates for the US. We reinforce this
finding by showing that the efficiency cost is also lower in labor markets
with higher informality within Brazil. This is because formal reemployment
rates are even lower in those labor markets absent behavioral responses. In
sum, the results go against the conventional wisdom, and indicate that
efficiency concerns may even become more relevant as an economy formalizes. |