Wage stickiness in Italy is much weaker for the informal sector

by on October 14, 2016 at 12:08 am in Data Source, Economics, Uncategorized | Permalink

We find that the wage differential between formal/regulated and informal/unregulated sectors increased after 2008. Moreover, while wages in the informal sector decreased by about 20% in 2008-13, wages in the formal sector virtually did not fall. This is consistent with the view of a substantial downward stickiness of wages in the regulated labour market. Importantly, before the recession, wages in the formal and informal sectors moved in parallel (with a 15% premium in the formal sector) – confirming the validity of the parallel trends assumption essential for our difference-in-differences methodology, and showing that both regulated and unregulated labour markets have a similar degree of upward flexibility of wages.

We also look at the employment changes in the two sectors. We find that in 2008-2013, employment in the formal labour market fell by 16%. At the same time, employment in the informal labour market did not vary – if anything, it increased slightly (by 1.6%), although the change is not statistically significant. This finding is fully consistent with the conventional narrative – the downward rigidity of formal wages result in formal workers losing jobs or moving to the informal sector.

That is from Sergei Guriev, Biagio Speciale, Michele Tuccio, more data and discussion at the link.  I would note, however, that the formal and informal sector differ in ways other than just their degree of regulation.  When labor contracts are truly short-term, and there is less morale-building in the enterprise, wages may be less sticky for non-legal reasons.  And those are the firms most likely to end up in the informal sector.  Still, there is an interesting and striking contrast.

1 chuck martel October 14, 2016 at 12:15 am

A study was needed to determine this?

2 Ray Lopez October 14, 2016 at 12:55 am

@ chuck martel – perhaps you are not aware of how big a deal price stickiness is for macroeconomics? Basically, all of Keynesianism and Monetarism depend on two phenomena: price stickiness and money illusion. Both pillars are weak. If there’s little or no price stickiness (this study, others), and very little money illusion (nominal values and real values are not confused nor affect each other, see Baxter and Stockman’s 1989 paper showing they are not), then all of Keynesianism and Monetarism is nothing but an illusion. And re monetarism, Bernanke (yes, that one) et al in their 2002 FAVAR paper show that monetarism only has a 3.2% to 13.2% out of 100% effect on a variety of variables, including GDP. 3.2%! That may be statistically significant as Bernanke said, but pretty close to zero for most people.

Short answer: most economists are being fooled by randomness, the economy is nonlinear and cannot be predicted nor directed by fiscal or monetary policy. So yes, a study is needed. But, like trying to prove agnosticism or atheism to a deist, you will not get very far no matter how much evidence you present. Social studies prove as much, the people don’t change their mind no matter what the evidence shows for core beliefs. I’ve talked to Baptists in Virginia and the Philippines who believe in the Great Flood and Noah’s Ark, literally (what a crowded Ark that must have been). Even scientist and chess master IM Ken Regan believes in the Young Earth theory literally, and tries to prove it to others (GM Kasparov also had strange ideas about history). I have no problem with that, if it’s religion, but is economics also religion? You wonder.

So yes, a study was needed to determine this. But it won’t do much good.

3 ChrisA October 14, 2016 at 1:37 am

Rays says “there is little or no price stickiness” but the study says “Moreover, while wages in the informal sector decreased by about 20% in 2008-13, wages in the formal sector virtually did not fall.”. Sound to me like the study is claiming there is strong evidence of stickiness in the formal sector. And indeed if you have ever had an employee whose wages you would like to cut, you will know why. People strongly resist cuts in nominal wages.

4 Ray Lopez October 14, 2016 at 8:39 am

OK fine ChrisA, but that’s only -4.4%/yr, hardly enough to get excited about. Not enough to make policy over (recall the 3.3-13.3% figure).

5 Cliff October 14, 2016 at 10:04 am

How absurd. That effect is huge. HUGE

6 Floccina October 14, 2016 at 12:03 pm

+1

7 Troll me October 14, 2016 at 1:31 am

It’s pretty crucial in determining whether it’s even worth doing macro policy. So yeah. And the decimal places might even eventually matter.

8 Andre October 14, 2016 at 3:45 am

Spare a thought for the composition of the work forces that dominate the formal and informal economy and their relative rights under Italian Law. Would the work force that dominates the formal sector be willing to give up their protections even if it meant great employment eventually? Would the state let them give up those protections? Does the state care about extending those protections to the informal sector?

9 Brett October 14, 2016 at 1:35 pm

I doubt it. Young folks in Italy turned out in force to protest a labor reform law being considered by the Italian government that would have eased labor rules, and they’re among the most likely to end up in the temporary/informal/etc labor force. Same thing happened in France.

Think of formal employment under such circumstances as a prize or sign of “having arrived”. It’s hard to get, but once you get it you’ve “made it” and have theoretically job security and decent pay to build a life around. Take that away, and you never get that status even if it’s easier to find formal sector work.

10 Andrew M October 14, 2016 at 4:36 am

Alternative title: Why there is no Starbucks in Italy. (Ok, so they opened one this year.) Or: why Starbucks didn’t start in Italy, despite it being the historical home of coffee in Europe.

11 Just Another MR Commentor, King of the Komments October 14, 2016 at 6:21 am

I think you mean ” Starbucks didn’t start in Italy, BECAUSE of it being the historical home of coffee in Europe.”

12 Andrew M October 14, 2016 at 7:17 am

No, that’s not what I meant at all. America is the historical home of the burger; and burger chains expanded across the country. Italy doesn’t even have domestic coffee chains.

13 Just Another MR Commentor, King of the Komments October 14, 2016 at 7:37 am

Because you could already get excellent coffee throughout Italy. You can even get a good espresso at some gas stations there. Starbucks is the result of trying to emulate the Italian coffee culture in America because the America coffee market was dominated by people drinking garbage like Maxwell House and Folgers at the time. What would be the point of setting up a coffee chain in Italy?

Its a weird sort of inverse with respect to the burger chain analogy because you can argue that the American burger chains make much shittier burgers (particularly the traditional burger chains) than one finds at many non-chain American restaurants. The American Burger chains were created to fulfil the need of convenient but coffee in Italy is already pretty convenient – I mean most people don’t even sit down to drink their espresso in the morning.

14 Andrew M October 14, 2016 at 10:46 am

America has lots of good burger restaurants, yet it still managed to create a world-dominating hamburger chain.
Italy already has lots of good coffee shops, yet it didn’t manage to create even a regional coffee chain.

You’re making my point for me.

15 Floccina October 14, 2016 at 12:06 pm

+1

16 JWatts October 14, 2016 at 11:37 am

I can see both sides to this argument.

On the first hand, countries that already have a good version of a product don’t need a new chain to deliver it.

On the other hand, countries that already have a good version of a product would seem to be the logical incubator for a chain to deliver that product in an efficient manner utilizing economies of scale and a consistent image and quality.

However, they are both irrelevant. Italy isn’t much of a factor in economics any more outside of some luxury products. So, it’s not really serving as an incubator for any company. Italy is an older, retired version of California with a GDP per capita comparable to Mississippi’s.

17 The Other Jim October 14, 2016 at 6:27 am

Yep. Italy. Obama’s vision for America.

18 BC October 14, 2016 at 10:15 am

Economic theory question: what effect does non-cash compensation (contraception coverage, maternity leave, etc.) have on compensation stickiness and/or effectiveness of monetary policy? I would think that forcing workers to spend more of their wages on non-cash benefits would make it even more difficult to cut their compensation through cuts in their cash wages because those cash wages would make up a smaller percentage of total compensation. On the other hand, if prices of non-cash benefits were less sticky than cash wages, then that might make total compensation less sticky. Monetary policy would seem to be less effective: generating more inflation would increase nominal prices of non-cash benefits like health insurance and contraception even if nominal cash wages remained unchanged. Hence, the decrease in real total compensation, which is the means by which monetary policy can increase employment, would be smaller. The effect would be similar to mandating that wages rise with inflation.

Maternity and other paid leave benefits are different still. The current cost of these is probably related to the present value of expected future wages: one pays what are essentially insurance premiums now by cutting current wages by an amount that will pay for future paid leave and temporary replacement labor. The cost of these benefits probably rises with expectations of future wages rather than current wages.

19 Floccina October 14, 2016 at 11:09 am

I prefer to call it the taxed sector and untaxed. Untaxed includes illegal work and work for in family consumption.

I am fascinated with the untaxed sector, I think it can tell us a lot. For example according to freakonomics many drug sellers work for less than minimum wage, indicating to me that minimum wage is too high. I wonder about the size of the untaxed sector in the USA. I would guess that it is pretty big.

I wonder how large the sector is here in the US. Southern Europeans seem to live better than the official statistics say that they should, is that due to a large untaxed sector. Do blacks in teh USA live better than the stats should due to untaxed earning? I lived in Honduras for a while and the untaxed sector seems very large there.

BTW When I was young I worked for untaxed cash a few times in Providence RI where it seemed people were less law abiding than here in Florida. Mid-westerners who migrated here seem to be more law abiding than north-easterners.

20 Floccina October 14, 2016 at 11:59 am

BTW I think USAers are more like the Italians than the very law abiding Germans, Dutch, Scandinavians, Irish and even the British. I think that means we need to be more classical liberal that they need to be.

21 BC October 14, 2016 at 1:20 pm

The biggest untaxed (and unregulated) sector may be home production: cooking, doing laundry, mowing lawns, home maintenance, etc. If one considers how many people do these jobs for themselves but don’t do the same jobs for others for pay, we begin to see just how much economic activity taxes and regulations block. When someone cooks for themselves, they “pay” themselves what they save by not going out to eat or hiring a cook. Yet, they typically will not hire themselves out to cook for others. The difference is that in the second case, they would need to pay taxes and regulatory compliance costs. Regulatory compliance often introduces high fixed costs, so one can only make a successful business with sufficient scale. Cooking for a few neighbors may not be big enough. Marginal tax rates in the tens of percents (15-50%) are obviously more than large enough to create these distortions too. Even when people pay teenagers to mow lawns, babysit, shovel snow, etc., typically the teenagers are paid in cash and, often, such income is not reported on tax returns. Again, more evidence that taxes are indeed blocking much economic activity. As soon as taxes are removed, people start choosing much more work over leisure.

22 BC October 15, 2016 at 9:28 am

Uber and driving may be the most vivid example of how home production, or what Floccina calls “work for in family consumption”, tells us a lot about the impact of taxes and regulation. Before Uber, many people drove themselves to save the cost of hiring a driver but would not drive others for pay. Driving oneself is untaxed and unregulated, unlike driving others for pay. As soon as Uber nullified the regulations that created the taxi cartels, the number of people driving others for pay exploded [https://www.bloomberg.com/view/articles/2016-10-14/the-cities-that-uber-and-lyft-are-changing].

23 Troll me October 14, 2016 at 1:24 pm

Do you think the number of drug dealers would decrease or increase if the minimum wage were half as high?

I suspect you’d have millions more people in need of supplementing their income, many many many thousands of whom would take up illicit activities on the side to pay blils, save for children’s education (not often in this group I expect) and other such things. Unfortunately, in the meantime, as a result, many would get tied up in excessive drug usage.

24 Floccina October 14, 2016 at 2:34 pm

I would expect with a lower min wage fewer people would sell drugs but it is an empirical question. So why do you think that they are choosing to sell drugs at below the minimum wage?

Also if you work about 40 hours a week I think you are above poverty level of income.

https://aspe.hhs.gov/poverty-guidelines poverty level = $11,880. (($11,880)/49)/40 =$6.06 per hour. And many people like to work more than 40 hours a week, some even take a 2nd job to get around the overtime laws and the reluctance of their boss to pay time and half. Other than vacations I have never voluntarily worked less that 50 hours a week when I could get more hours but now I am old and would like to work less but is has not yet worked out. People want jobs even at lower pay levels.

http://earlyretirementextreme.com/how-i-live-on-7000-per-year.html

25 Troll me October 15, 2016 at 1:36 pm

“many people like to work more than 40 hours a week”

Why don’t you ask them if they are more concerned about needing more money, and don’t “like to work more than 40 hours a week”.

Anyways, those with relevant experience can easily assure that when minimum wage is low, alternative means of earning income are highly attractive.

Consider: you’re a corner store attendant who doesn’t think there’s much wrong with drugs. In the one case, minimum wage is $5 an hour. In the second case, minimum wage is $10 an hour. In which situation do you think the minimum wage earner is more likely to deal drugs?

26 Floccina October 15, 2016 at 8:32 pm

People who make a lot more than they need to livo often say the they needing more money. See my link: http://earlyretirementextreme.com/how-i-live-on-7000-per-year.html

Consider you have put out a bunch of applications but have not found a job verses there are always jobs available at 4 or 5 dollars an hour, in which case do you think would more likely to sell drugs making $5/hour.

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