Three essays on the labor market

Using a three-essay approach, I focus on two issues related to the labor market: the effect of changes in regulatory costs on informal sector employment, and the role of endogeneity in the relationship between education and earnings.

In the first essay, I analyze the implications of regulatory costs on skill-based wage differences and informal sector employment. I use a two sector matching model with exogenous skill types for workers where firms have sector-specific costs and workers have sector-specific bargaining power. In general, there are multiple equilibria possible for this model. I focus on the equilibrium that best resembles the situation in the developing countries of sub-Saharan Africa and southern Asia. My results show that government policies which reduce regulatory costs decrease unemployment, earnings inequality, and the fraction of skilled workers in the informal sector. The different types of regulatory costs affect the skill premium differently and non-monotonically.

In the second essay, I test the hypothesis of linearity in returns to education in the Mincer regression with endogenous schooling and earnings. I estimate the marginal rate of return to education using a polynomial model and a semiparametric partial linear model based on the standard Mincer regression. To perform the analysis, I use a control function approach for IV estimation with spousal and parental education as instruments. Results suggest that estimates not accounting for endogeneity understate returns at the tails of the education spectrum and overstate returns for education levels between middle-school and college.

In the third essay, I empirically test the claim of Mookherjee and Ray (2010), based on a theoretical model of skill complexity, that "the return to human capital is endogenously nonconcave." I estimate the functional form of returns to education for India using a semiparametric partial linear model based on the standard Mincer regression. Marginal returns are estimated to test the nonconcavity of the functional form under both exogenous and endogenous schooling assumptions. My results show that the marginal rate of return declines during primary education and increases until high school, followed by stable returns for college and higher studies. However, the test of robustness of the functional form based on uniform confidence bands fails to reject the presence of nonconcavity in returns to education for India. This lends support to the claim of Mookherjee and Ray (2010).