Labor share, informal sector and development

Maarek, Paul (2012): Labor share, informal sector and development.

Abstract

This paper aims to understand the pattern of the labor share of income during the development process. We highlight a U-shapped relationship between development and the labor share. Our theory emphasizes the interplay between firms'monopsony power and the size of the informal sector when the formal labor market has frictions. The size of the informal sector parameterizes workers'outside opportunities in wage setting. In the first stage of development, productivity gains are not compensated by wage increases, as most of workers'outside opportunities depend on the informal sector whose productivity remains unchanged. The labor share decreases as a result. In the second stage of development, outside opportunities rely more on productivity in formal firms as the formal sector expands. Consequently, the labor share increases. We then use a policy experiment, namely capital account liberalization episodes, in order to determine the causal impact of economic development on the labor share.

• Item Type: MPRA Paper
• Language: English
• Keywords: Development ; Informal sector ; Labor share ; Matching frictions
• Subjects: E - Macroeconomics and Monetary Economics > E2 - Consumption, Saving, Production, Investment, Labor Markets, and Informal Economy > E25 - Aggregate Factor Income Distribution; O - Economic Development, Innovation, Technological Change, and Growth > O1 - Economic Development > O17 - Formal and Informal Sectors ; Shadow Economy ; Institutional Arrangements; J - Labor and Demographic Economics > J4 - Particular Labor Markets > J42 - Monopsony ; Segmented Labor Markets

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