Informal Labor and the Efficiency Cost of Social Programs: Evidence from Unemployment Insurance in Brazil

Francois Gerard and Gustavo Gonzaga

American Economic Journal: Economic Policy, 2021, vol. 13, issue 3, 167-206

Abstract: It is widely believed that the presence of a large informal sector increases the efficiency cost of social programs in developing countries. We evaluate such claims for the case of unemployment insurance (UI) by combining an optimal UI framework with comprehensive data from Brazil. Using quasi-experimental variation in potential UI duration, we find clear evidence for the usual moral hazard problem that UI reduces incentives to return to a formal job. Yet, the associated efficiency cost is lower than it is in the United States, and it is lower in labor markets with higher informality within Brazil. This is because formal reemployment rates are lower to begin with where informality is higher, so that a larger share of workers would draw UI benefits absent any moral hazard. In sum, efficiency concerns may actually become more relevant as an economy formalizes.

JEL-codes: D82 E26 J46 J65 O15 O17 (search for similar items in EconPapers)
Date: 2021
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Citations: View citations in EconPapers (40)

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DOI: 10.1257/pol.20180072

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