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Eur J Law Econ (2011) 32:6987
DOI 10.1007/s10657-010-9179-6
Ozan Hatipoglu Gulenay Ozbek
Published online: 17 September 2010 Springer Science+Business Media, LLC 2010
Abstract In this paper we analyze a general equilibrium model in which agents choose to be employed in formal or in the informal sector. The formal sector is taxed to provide income subsidies and the level of redistribution is determined endogenously through majority voting. The model is simulated to produce qualitative results and to illustrate the differences between economies with different distributional features. We show that a distortion in the democratic rule in favor of the rich reduces transfers while the size of the informal sector may remain at high levels. Despite a greater demand for redistribution in societies where the majority has few resources (skills), we nd that political systems which work in favor of a rich minority will produce little redistribution. Our results call for pro-poor measures such as free training and education programs that should be offered to those who cannot afford it.
Keywords Informal sector Income redistribution Median voter
JEL Classication H2 D3 J2
1 Introduction
With a large portion of the worlds poor in developing countries, why is it that there is little income redistribution in these countries? When the issue is as vital as
O. Hatipoglu (&)
Department of Economics, Bosphorus University, Bebek, 34342 Istanbul, Turkey e-mail: [email protected]
G. Ozbek
Reform Corporate, Istanbul, Turkey
G. Ozbek
New York University, New York, NY, USA
On the political economy of the informal sector and income redistribution
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income one would expect to nd a signicant popular demand for higher redistribution regardless of the type of regime since even dictators worry about street riots by the masses. In this paper, we present a political economy model that accounts for this puzzle. We argue that the poor in developing countries work in the informal sector to generate supplementary income when the government cannot tax enough from the richer to generate subsidies for the poor. We show that the government cannot tax enough because if the formal sector is not sufciently lucrative at least some people opt to spend their work hours in the informal sector. In addition, they vote to ease the taxes on...