Academic journal article Journal of Economic Issues

Estimating the Effects of Informal Economic Activity: Evidence from Los Angeles County

Academic journal article Journal of Economic Issues

Estimating the Effects of Informal Economic Activity: Evidence from Los Angeles County

Article excerpt

Economists have traditionally associated informal economic activity with developing countries [De Soto 1989; Fields 1975; Marshall 1987; Sethuraman 1981] and have emphasized its negative tax implications [Reed 1985]. Less research has been done on the extent, role, and impact of such activities in industrialized countries. This is partly because many analysts have assumed that informality or informal economic activity (IEA) is a temporary alternative to unemployment and poverty and thus tends to disappear as the economy develops a larger urban industrial base that is capable of absorbing surplus labor. 1

Recently, sociologists using the so-called structuralist approach have begun to gather case-study evidence on IEA in large U.S. cities such as Los Angeles, New York, and Miami [Dangler 1994; Fernandez-Kelly and Garcia 1989; Leonard 1994; Lopez-Garza forthcoming; Lozano 1989; Pessar 1994; Portes, Castells, and Benton 1989; Portes and Sassen-Koob 1987; Sassen 1988, 1989]. While earlier approaches defined "the informal sector" according to arbitrary characteristics, such as the type of economic activity, firm size, workers' social status, or the amount of capital investment, this more recent research distinguishes IEA by its production and exchange processes. Thus, IEA is not a single industry sector and is defined instead as "ali income earning activities that are not effectively regulated by the state in social environments where similar activities are regulated" [Portes, Castells, and Benton 1989, 12]. For instance, selling of oranges in a grocery store is a formal economic activity. Selling them on a highway exit ramp in Los Angeles County to passing motorists is not. Likewise, producing T-shirts in a factory where labor and health standards are not enforced is an IEA. Alternatively, prostitution is an illegal economic activity regardless of where an exchange takes place, but it is not an IEA. In short, Ilia involves legal goods and services in which the production or exchange is not effectively covered by state regulations. Informal workers are those who participate in such activities.(2)

Using this definition, the structuralist sociological approach finds that IEA is not necessarily associated with underdevelopment in the "Third World," and it may persist in conjunction with "modern" and even post-modern or post-industrial sectors of the economy. Indeed, various scholars working within this framework have connected Ilia to processes of globalization and restructuring that have been occurring since the late 1970s [Portes, Castells, and Benton 1989; Sassen 1988, 1989]. Specifically, rising global or regional movement of capital, goods, and labor has forced some firms to adopt more flexible and less costly production methods [Larson and Ong 1994], which has resulted in a larger supply of international migrant labor willing to work informally [Joassart 1999]. This contrasts with the notion that IEA results primarily from stricter state regulations on economic activity. Still, understanding the exact impact of IEA has been problematic; after all, it is difficult to obtain reliable estimates of economic activity that consciously seeks to evade measurement.

This paper supplements previous case-study work on informality with a novel approach to estimating IEA using Census and other data. Specifically, we develop a proxy for IEA based on a unique sample of foreign-born Mexicans collected in Los Angeles County and employed in earlier research on the economic effects of unauthorized immigration [Marcelli 1999; Marcelli and Heer 1998, 1997]. We then apply this proxy to the Public Use Microdata Sample to generate a cross-section econometric estimate of wage determination in different labor market segments (categorized by high, intermediate, and low degrees of informality) in the Los Angeles County labor market. We also examine the impact of informality on the position and performance of other workers in Los Angeles County. …

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