LCC Working Paper Series: 2015-07


Luz A. Flórez and Francisco Perales

Non-technical Summary

Informal employment is defined by the International Labour Organization as “economic activities by workers and economic units that are in law or in practice not covered or insufficiently covered by formal arrangements”. In research, individuals who work without a written contract are usually considered to be informal workers.

Informal work has become a recognised problem in both developing and developed countries. This is because informal workers are not covered by the law, may lack access to unemployment insurance, pensions, or the health system, and are less productive. This is not only unfair to the individual worker, but it is also detrimental to the economy as a whole, as informal workers do not pay taxes. As a result, reducing informal work is a recognised policy objective.

During the last few decades and especially after the 2008 Global Financial Crisis (GFC) several European countries implemented employment reforms involving cuts to labour protection to increase labour market flexibility and reduce unemployment. While some authors argue that these measures worked in reducing unemployment rates, we posit that one of their ‘side effects’ was the rise in the prevalence of informal work.

Testing this is the goal of this paper. To do so, we analysed whether or not different indicators of labour protection were associated with the prevalence of informal employment in 20 European countries during the time period comprised between 2004 and 2012, i.e. before, during and after the GFC.

Key results indicate that increases in labour protection are associated with reductions in the prevalence of informal work. This finding has significant policy implications, and suggests that policies promoting labour market flexibility through reducing the generosity of unemployment benefit schemes and the regulation of employment protection can have the unintended consequence of increasing the size of the informal sector. This may offset (or partially offset) the benefits associated with labour market flexibility.

These findings can thus inform and contextualise current political and media debates about the pros and cons of implementing employment protection legislation in times of economic recession.


May 8, 2015