of workers hold at least one type of informal job and 30.8 percent hold no formal job at all (see Table A-11 for more details). If focusing only on the primary job, the informality rate is 24.8 percent.<sup>15</sup>

**First-order effects of the tax maneuver on employment, income distribution and fiscal budget based on random allocation**

Our analysis focuses on potential avenues for improving the distributional and fiscal outcomes due to formalization. It is important to note that we only consider the outcomes of formalization of employees because they are the target group of the hypothetical tax reforms initially proposed by the government. The treatment of the self-employed in the tax-benefit system is different from that of employees and it is not subject to reform under the hypothetical policy proposal analyzed in this paper. First, we show how the tax and benefit policies that are currently in place affect the distributional outcomes of formal and informal workers. This is intended to serve as a reference point for the subsequent analysis of policy changes. Second, we assess the first-order effects of hypothetical scenarios assuming formalization of a random selection of subsets of informal workers due to the tax maneuver, on income distribution and fiscal budget. Third, we model first-order effects of the tax maneuver on informality but using a behavioral model that selects who and how many informal workers actually become formal and estimate the impact of these changes on income distribution and the fiscal budget.<sup>16</sup> We propose six hypothetical scenarios to evaluate the first order distributional and fiscal impact of the tax maneuver. The simulated scenarios are summarized in Table 3. The scenarios vary by (1) potential changes in the tax system and in formalization (rows 1-2 in Table 3), and (2) assumptions about the incidence of taxation (columns A-B-C in Table 3). In all the scenarios VAT burden is assumed to be shifted to consumers, the non-take up ratio of means-tested benefits and unreported incomes are assumed to be constant. Under each scenario of this static micro-simulation we tested several options of the degree of formalization by hypothesizing transitions of varying percentages of informal employees into formality: from 0 percent (which implies that the tax maneuver has no impact on formalization), to 10 percent, 20 percent and 50 percent<sup>17</sup> of all informal workers (i.e., full formalization). The individuals undergoing transitions have been selected randomly from the pool of informal workers.

> 15 This definition of informality differs from the definition used by Rosstat. The official Rosstat definition of informal employment is estimated using the Labor Force Survey (LFS) and includes workers that are employed but not at an enterprise in their primary or secondary job. No reference is made to envelop payments. As of 2016, the informality rate according to Rosstat is 21.2 percent.

> 16 Given the definition of informality of this exercise, turning formal means the worker has no earnings that do not pay SIC and PIT. Namely, if he/she had a share of earnings as envelope payments or had no contract, becoming formal means having a work contract and no envelop payments, so 100% of earnings are subject to SIC and PIT. The simulation exercise excludes the self-employed workers because the tax maneuver would not affect the taxation mechanism for this group. 17 Formalization of 30%, 40% and 100% of informal workers were estimated too. The four abovementioned were selected to demonstrate for the following reasons: 0%, 10% and 20% are the most realistic cases, that one should expect as reaction for tax maneuver (based on probabilistic simulations described further) and 50% leads to a fiscally neutral effect under Scenario 2.

18