The political economy of formal sector pay and employment in developing countries

Domestic labor market outcomes influence the direction and magnitude of the flow of international migration. When wages are low and jobs are scarce, workers tend to migrate to environments where jobs are available at higher wages. But as labor demand grows, a labor-exporting country may become a net labor importer. Such a"migration transition"- already much in evidence in East and Southeast Asian countries and beginning for skilled workers in India - is analogous to the demographic transition. The process of political economy described by the authors affects the level and growth of wages and of formal sector emmployment. So it is important for policymakers concerned about migration to high-income countries to take it into account. An efficient, flexible, responsive labormarket contributes to growth by creating an appropriate economic environment. In this respect, labor policy is like macroeconomic and trade policy. Unlike the accumulation of physical and human capital and technical progress, a well-functioning labor market is not itself a source of economic growth. Yet labor market pathologies, like macroeconomic mismanagement, can be extremely costly, severely constraining growth of output and employment and increasing inequality. Similarly, failure to adequately address the labor-market aspects of policy reform can result in the failure of other dimensions of reform. The smooth functioning of the labor market feeds on itself, enhancing the credibility of both workers and the elite. Conversely, poor labor market performance can also be self-reinforcing. Attempts to reform the labor market feeds on itself, enhancing the credibility of both workers and the elite. The payoff on labor reform can be high for both groups. The challenge is to find mechanisms whereby the credibility of both groups can be bolstered.