Thiago Scarelli**, David N. Margolis*
- This article was originally published in the October 2021 edition of the 5 papers…in 5 minutes.
Own-account workers — those who have neither a firm to report to, nor an employee to coordinate with — constitute about 40% of all working individuals in low or middle income countries, a share that is five times larger than the average for high income countries (1). Moreover, own-account workers often earn less than employees, even when only looking at urban areas. Why do some individuals take such poorly paid jobs, while others who face similar opportunities find better-paid work as employees? To what extent is their decision to undertake low-paid own-account work a constrained choice?
In this paper, Thiago Scarelli and David N. Margolis suggest that workers’ time preferences, or how much they value current income relative to future income, could be at the origin of this puzzle. Using a standard approach to understanding how individuals search for jobs, the authors show that similar individuals facing the same labor market opportunities could choose differently depending solely on their urgency to consume. A person who puts less weight on quickly earning income would start looking for a good job, while a person facing an urgent need for income and an inability to borrow money to satisfy these needs would rationally prefer a job that pays less, but sooner. This original mechanism complements other explanations for own-account work (taste for autonomy, variety of personal skills, rationing of jobs) while highlighting the role that the poorly-developed capital markets typical of developing countries could have in driving workers out of wage employment.
The authors then examine the relevance of their approach by studying urban workers in Brazil, where they have information on the types of jobs that people do, their labor income, personal characteristics, and household conditions. The main results come from a comparison between the labor income of own-account workers with what they could plausibly expect to earn as employees, accounting for the expected time required to find a job, and how long such a job would last. This simple structure is sufficient to identify, for each own-account worker, the lowest time discount rate that would make their observed choice (own-account work) preferable to the alternative (searching for work while unemployed without receiving benefits, followed by wage job). The main finding is that at least 65% of the own-account workers in Brazil appear to discount their future labor income at rates above the average consumer credit rate from the banking system. The authors interpret this result as a measure of the prevalence of constrained own-account work, or an occupational choice driven by a scarcity of jobs combined with an inability to access loans at market rates. In other words, most own-account workers would benefit from borrowing at the prevailing market rate to cover their needs while searching for a better-paid wage job if they could do so.
The paper then provides suggestive evidence that higher estimated preferences for the present are associated with food, clothing, and housing deprivation (more scarcity) and with financial stress and a lack of access to credit (less liquidity). These results are consistent with the idea that urgent needs lead to a preference for quick, small returns in the labor market, and suggest that policies supporting the liquidity of job-seekers have the potential to improve worker earnings in the long run.
(1) World Bank Classification:
Original title of the article: When You Can’t Afford to Wait for a Job: The Role of Time Discounting for Own-Account Workers in Developing Countries
Published in: PSE Working Papers n°2021-48
Available at: https://hal-pse.archives-ouvertes.fr/halshs-03288728v1
Credits (picture): Dmitry Demidovich – Shutterstock
* PSE Professor
** PSE PhD Student