Thursday, 11 July 2013

Wages in informal sector, money matters, feb 11, 2013

Informal Sector 
 The wage factor 
 By M. Ali Kemal 
While discussing urbanisation, we always talk about its benefits and ignore the problems associated with it. Hanzla Jalil at the Pakistan Institute of Development Economics (PIDE) pointed out that the crime rate rises with an increase in the size of urban sector due to lack of planning. Lack of planning is not only associated with developing countries but it is present in the cities of developed countries as well. Another problem which increases crime in the urban sector is unemployment, especially in the informal sector. This is despite the fact that most of the entrants in the urban sector start their own small businesses, which includes hawkers, street vendors, knife sharpeners, junk collectors, shoemakers, etc. However, immigrants from rural areas also come to work in the formal as well as in the informal sector. If they become a part of formal sector, which is legally registered and subject to government regulations, then all the government rules are applied on those employees and workers. However, if those immigrants become a part of the informal sector, which could be legal but not registered and not subject to government regulations, it does not incorporate in the formal statistics.

Apart from the above mentioned problems, lower wage rate in informal sector as compared to formal sector is one of the problems that we are focusing on in this article. The Harris-Todarro model focuses on rural-urban migration in which rural wage is less than urban wage rate and wage rate in the urban formal sector is downward sticky. Due to the rural and urban wage differential, people tend to move towards urban areas. However, the formal sector absorbs some of the emigrants and the rest work in the informal sector. It is generally believed that work offered to them in the informal sector is unproductive or underproductive. Thus, wages offered to them are lower than the existing wages in the market.

Underproductivity of employees in the informal sector has several reasons, such as unskilled labour migrating from rural to urban areas and skills not being used properly in the informal sector. Considering the former case, unskilled labour is less productive than skilled labour, thus unskilled labour’s wage rate is lower. These unskilled workers are household workers, waiters in smaller restaurants, especially, workers at tailoring shops, etc.

Apart from that, if we compare the wages of skilled labour in both the sectors, wages in the informal sector are lower than the informal sector. The first reason for having lower wages in the informal sector among others is underemployment. People are said to be underemployed if they work for hours less than they are required to do in a week (40 hours a week is generally considered to be definition of full time employed person). Since employees do not need workers on full time basis, they do not give them wages that are equivalent to wages of the formal sector. People migrate from rural to urban areas seeking jobs agreed on lower wages since those wages are either higher than rural wages or they were previously unemployed in the rural areas or there could be some other socio-economic reason. A study by A. R. Kemal and Zafar Mahmood at PIDE on the informal sector contradicts our first claim of low wages. According to the study, on average workers in the informal sector work for sixty hours per week. Thus, there is no underemployment.

Another reason for low wages in the informal sector is exploitation. Although it sounds quite rhetoric, it is a fact that exploitation of labour is present in both formal and informal sectors, especially when unemployment rate is high. However, the informal sector is more pinched by exploitation than the formal sector which further reduces wages in the informal sector.

The third reason is associated with legislation, i.e., minimum wage legislation. Since the informal sector does not come under government legislation, employers are not bound to give minimum wages to their employees. Thus, they give lesser wages to their employees than the minimum wage, i.e., Rs8,000. It is difficult for the government to reinforce this rule since the informal sector does not come directly under the control of government.

Activities in the informal sector are, in general, labour-intensive. Capital use in the activities is either obsolete or at least not up-to-date, which leads to low allocative efficiency. In several instances, it is locally manufactured or modified using old technology. Low level of technology has lower productivity, requires low skills, hence it leads to lower wages.

In general, the formal sector has trade unions or at least labour unions which protect the rights of workers. It is, however, absent in the informal sector. Normally, the informal sector employs a small number of workers (3.3 persons per enterprise, on average according to Ar. R Kemal and Zafar Mahmood’s study) and the need for union is not important. However, the employer either exploits that thing or he just needs part time workers. Moreover, he is not registered with the government, which is why he gives lower wages to workers.

Another reason associated with the wage differential between formal and informal sectors is the absence of competition in the market. Even though it is said that the informal sector is larger than formal and there are chances that competition prevails in the market, lack of information about the market, job insecurity, exploitation and absence of government regulations in the sector does not let competition play its role.

We have considered legal informal sector in this article. However, there is a debate on the wage rate in the illegal informal sector. Some researchers argue that wages are higher in the illegal informal sector since a few people are involved in it, which enhances labour productivity and hence they are paid well. Another reason for higher wages is the probability of getting caught by lawmakers, which urges them to ask for higher wages. Therefore, we can say that illegal informal sector is different from legal informal sector.

Informal sector is considered to be the backbone of an economy. The sector is assumed to be strongly associated with the formal sector since raw or intermediate goods are available at cheaper rates from the informal market than formal sector. Almost all the studies done on the wage differentials between informal and formal sector came out with significant differences in wages in the two sectors. Either it could be labour market regulation problems or exploitation or lack of trade unions. We can start debating on any of the above mentioned important issues, for example, how to regularise the informal economy or should we document the informal economy. I believe debate is an indispensable part of development, which should not be ignored. Moreover, since the last comprehensive survey on the informal sector was done in 1990s by PIDE-FES, it would be good to conduct another comprehensive survey on the informal sector, which highlights the problems of informal sector and workers working in the informal sector.

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