Association for Public Policy Analysis & Management

This paper studies the effects on labor force participation, formalization rates and hours worked of a government policy aimed at reducing labor market informality in Argentina and bringing workers into the on-the-books employment sector. Worldwide, more than 1.5 billion people work in informal arrangements, typically not paying in full into the national pension scheme and not affected by other aspects of the regulatory or tax system. Policies aimed at moving workers into the formal economy are relevant at the individual level to ensure access to mandated benefits, and at the country level since informality is associated with weaker economic growth and less economic mobility across generations.

This study examines Argentinean national Law 26.063 of 2005, which provided employers of domestic workers like maids and nannies with a tax credit for having their workers on the books. This meant that once household employers report wages to the tax authority and pay for workers’ health insurance and pension contributions, they receive a credit for both wages and social security taxes on their income tax. The maximum tax credit amount covered 70 percent of the cost of hiring a full-time domestic worker. Before this law, informality among household employees was 95 percent. By 2008, that figure had dropped to 85 percent.

Using employment data for over 15,000 women from the Argentinean Household Survey for the period 2003-2008, the paper examines market responses to the introduction of the tax credit through a triple difference (difference-in-difference-in-difference) strategy. It exploits geographic variation in the intensity of the law based on differences in the share of potential household employers that could benefit from the credit according to their income level, and uses a group of similar low-skilled females as control.

Consistent with the theoretical model, preliminary results show that the introduction of the tax credit: i) increased domestic workers’ formalization rates by 10 percentage points; and, ii) had no impact on their labor force participation. Moreover, the law had no effect on the number of hours worked by a formal domestic worker – an indication that the amount of the credit was enough to cover the incremental cost of formality over the informal arrangement for those transitioning.

Finally, the paper uses this policy to test whether workers decide to be employed in the formal or informal sector. In 2005, access to welfare for domestic workers depended on reported family income, having children under the age of 18 and having a spouse employed in the formal sector. The law therefore effectively treated certain workers differently than others based on welfare eligibility, which acted as a fixed cost of operating formally. A set of difference-in-difference estimations comparing formalization rates before and after the tax credit between domestic workers with children under and over 18 show no differences for single domestic workers or for those married to informal workers. However, for domestic workers married to formal workers, formalization was 7 percentage points lower for those with children under 18, supporting the hypothesis of self-selection into formality.