Monopsonistic Competition in Formal and Informal Labor Markets

The workhorse of urban labor theory in development economics is the formal/informal model of labor market segmentation and its variants. The seminal Harris-Todaro model has been extended over the years to cope with various empirical puzzles not explained in the original framework. However, one issue stands out that cannot easily be explained in a competitive framework. Specifically, there is considerable evidence suggesting that many workers choose to work in the informal sector, even though formal sector jobs are available to them and despite the fact that wages are typically higher in the formal sector. One solution is to depart from the usual competitive framework and consider formal and informal labor markets under oligopsony/monopsonistic competition