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Informal Employment in Transition Countries: Empirical Evidence and Research Challenges


Even though informal employment is widespread in transition economies, the literature on this phenomenon in the region is rather scarce. For policy makers it is important to know the incidence and the determinants of informal employment. In the first part of the paper we demonstrate that its incidence and to a lesser degree its determinants depend on the definition used. We then discuss studies that attempt to test for labor market segmentation in transition economies along the formal–informal divide. The presented results are inconclusive, and we come to the conclusion that more work needs to be done before we can make definitive statements about whether labor markets are integrated or segmented in transition economies. Last but not least we introduce a new research area that links risk preferences and selection into labor market states. We show that if individuals have a choice, relatively risk-loving workers have an increased likelihood to choose informal employment and self-employment.

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  1. These averages are not weighted by population size; they are just meant to demonstrate that informality is a large phenomenon in transition economies.

  2. In this school of thought, formal sector jobs not only command higher wages but also provide fringe benefits that are absent with informal sector jobs (see also Mazumdar, 1976).

  3. La Porta and Shleifer (2008) present three schools of thought that are related to our paradigms but have a pure firm perspective. The first paradigm is the dual view that finds the formal sector consisting of high-ability managers matched to high-quality assets and the informal sector consisting of low-ability managers matched to low-quality assets. This sorting leads to two parallel worlds that do not really interact, with a low-productivity informal sector and a high-productivity formal sector. The second paradigm is the parasitic view that maintains that informal firms are of low productivity but because they evade regulations and taxes can undercut prices of formally operating firms and thus take away costumers. In this parasitic view, the informal sector hampers growth since it is of low productivity itself and reduces the activities of the high-productivity formal sector. The third view of the informal sector mentioned by La Porta and Shleifer is the romantic view, in the literature associated with the work of de Soto: the informal sector is actually or potentially vibrant with many very creative entrepreneurs who for the most part are held back by government regulations and taxes and insecure property rights. This romantic view gels with the idea of an integrated labor market.

  4. The questions are identical in the RLMS and the ULMS.

  5. Other definitions of involuntary employment relationships are, of course, possible. Bennett and Rablen (2015) in a theoretical paper define a job as involuntary if a person does not get her first choice job, even though her second choice job is voluntary in the sense that it is chosen in preference to the third choice.

  6. The complete results of the probit regressions, on which Table 2 is based, are presented in tables A2–A6 in the appendix of Lehmann and Zaiceva (2013).

  7. For a detailed description of the ULMS, see Lehmann et al. (2012).

  8. The three transition countries are: Albania, Georgia and Ukraine.

  9. Lehmann and Pignatti treat informal self-employment as voluntary.

  10. It is inherently risky since, for example, there is the risk of detection and subsequent punishment, the risk of immediate layoff and the risk of ending up ill or beyond working age without social security coverage.

  11. To save space we do not discuss the risk index averages across demographics or regions. As far as the demographics are concerned, the relative magnitudes definitely confirm our priors.


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This paper is based on my presidential address to the 2014 Annual Meeting of the Association of Comparative Economic Studies, which I presented on 4 January 2014 in Philadelphia, Pennsylvania. I am grateful to Olivier Bargain, Thomas Dohmen, Melanie Khamis, Norberto Pignatti, Tiziano Razzolini and Anzelika Zaiceva for allowing me to draw on joint work. Comments by Josef Brada, John Bennett and by participants of the ASSA meetings in Philadelphia and of the Second International Conference of the Institute for East and Southeast European Studies in June 2014 in Regensburg, where I gave an invited lecture on the same topic, are gratefully acknowledged. I am also grateful to the Fritz Thyssen-Foundation for partial financial support within the project ‘Risk attitudes and labor market informality: with a case study of Russia’. The opinions expressed in this paper are mine and should not be attributed to the University of Bologna or IZA.

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Lehmann, H. Informal Employment in Transition Countries: Empirical Evidence and Research Challenges. Comp Econ Stud 57, 1–30 (2015).

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