The anatomy of behavioral responses to social assistance when informal employment is high

Abstract

The disincentive effects of social assistance programs on registered (or formal) employment are a first-order policy concern in developing and middle-income countries. We study the impact of a conditional cash transfer (CCT) program in Uruguay on the employment of adult members in beneficiary households in a context of high informality. Our research design relies on the sharp discontinuity introduced by program eligibility rules around a poverty score threshold combined with longitudinal administrative data. We find reductions of about 6 percentage points (a 13% drop) in formal labor force participation among all beneficiaries and of 8.7 percentage points (a 19% drop) for single mothers. The implied elasticity of participation in the formal sector with respect to the net-of-tax rate is about 0.78 for the full sample and about 1.3 for single mothers. The reduction in labor supply is stronger among individuals who have a medium propensity to be formally employed, with a smaller reduction in the case of infra-marginal individuals. We also present suggestive evidence that the reduction in formal employment increases inactivity and informal work in equal proportions. Finally, despite pervasive informality in the context of the Family Allowance assistance program (AFAM), the program's marginal value of public funds of 0.61 implies an efficiency cost within the range of cash transfer programs targeted to families in the United States.