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Jakarta, INDONESIA, May 8, 2014 – A new World Bank report urges countries in East Asia Pacific to address the prevalence of the informal economy by enacting labor regulations and social protection policies that benefit people no matter where or how they work.

Modest, nationally-financed unemployment packages, for example, can help employers avoid costly severance schemes, lower labor taxes and encourage business to become formal, according to the report, East Asia Pacific at Work: Employment, Enterprise and Well-Being. Similarly, Thailand’s universal health care system has already lowered out-of-pocket costs for patients, led to wider user of medical services and reduced the risk of impoverishment caused by unexpected illnesses.

“Social protection policies should focus on protecting all working people, not favoring a particular sector, location or profession,” said Axel van Trotsenburg, World Bank East Asia and Pacific Regional Vice President. “When well designed, those policies will make sure that the most vulnerable workers have a pathway out of poverty and into middle-class prosperity.”

The report comes as policy makers are considering measures to formalize their labor markets after rapid economic development pushed labor participation rates in most East Asia Pacific countries to among the highest in the world. In the last 20 years, the region saw rising productivity amid a brisk structural transformation, with large movements of people into cities and higher output in agriculture, manufacturing and services. The share of the population working or seeking work in most East Asian countries, including women, is higher than other nations with similar income levels.

Despite fast economic growth in recent decades, the region’s growth rates are moderating and labor costs are rising. Further productivity gains are limited by skills gaps across the region and even a shortage of basic skills in Cambodia, Lao PDR and several Pacific island countries.

Meanwhile, the region’s prevailing labor market regulations and social protection policies are showing constraints. Designed when most workers were men in full-time, salaried employment, these policies today hurt the employment prospects of women, young people, and people with fewer skills, as well as those working part time or in self-employment.

Disadvantaged in the informal economy

“I would like to apply for a job, but it’s hard because I don’t have money to bribe the factory people,” said Nandang, 26, a casual worker in Indonesia. A father of two young children, he works as a farmhand, picks coconuts for hire, and when jobs dry up, he fishes for food in his village in Karawang, West Java. “I want my kids to have a good life, not like me. I want them to work in a factory so they can make their families happy.”

The labor regulations and social protection policies are failing most people, despite the fact that they are relatively stringent on paper, with some on par with those adopted by Southern European countries. But they are often poorly enforced, driving more people into unprotected, unregulated and untaxed jobs, and even unemployment.

Across the region, more than 30 percent of people ages 15 to 24 are completely left out—they have neither a job nor receive an education or training. The issue, the report warns, could lead to social unrest and the erosion of social cohesion. Meanwhile, rising wages for skilled workers are contributing to inequality in some countries.

To be sure, a vibrant informal economy can help people escape poverty, and informal work is better than no work at all. But a large informal economy limits the tax base governments use to finance public services. Competition from informal firms also can hurt business innovation and productivity. In addition, being employed informally leave working people more vulnerable to shocks, such as unemployment and unexpected illnesses.

“The prevailing models of labor regulation too often favor prime-age men at the expense of women, young people and those working part time or self-employed,” said Bert Hofman, chief economist of the World Bank’s East Asia and Pacific Region. “Especially in countries with low governance capacity, these problems are compounded, contributing further to the evasion of taxes and the size of the informal economy.”

Returning to fundamentals

Many countries are eager to tackle the problem by crafting new employment strategies. To stay on the right track, the report recommends that policy makers look beyond the labor market and focus on fundamentals, such as policies that ensure price stability, encourage investment and innovation, and support a regulatory framework that enables small and medium-size enterprises, which employ most people in the region. To address skills gaps, the report suggests policy makers consider measures to restructure the education system and help people learn more technical and behavioral skills, so households can keep pace with the demand of a global economy.

The region’s diverse economies, of course, call for different policy priorities. For the many countries that are still mainly agrarian, the report recommends that policy makers focus on boosting agricultural productivity and encouraging non-farm enterprises.

For urbanizing economies, such as China, Indonesia, the Philippines, and Vietnam, the report suggests that governments focus on making cities work better by boosting infrastructure and improving services. With forward-looking urban planning, especially urban land markets and transportation infrastructure, countries can ensure that migration from rural areas to towns and cities leads to more gains from agglomeration than damages from congestion.

Truman Packard, one of the report’s lead authors, said governments should take a more active approach to employment to sustain working people’s welfare.

“Top-down industrial policies are less viable in today's increasingly integrated and rule-based global economy” he said. “Instead, policy makers should look at reforms across a number of policy arenas and enact policies that protect all workers and encourage the mobility across sectors and geography. Governments need to avoid the danger of segmentation and the limits this imposes on productivity and growth, particularly as they face the onset of rapid population aging.”