revenues for microenterprises, and from 5.4 percent to 7 percent of revenues for small firms. In total, SIMPLES permitted an overall reduction of up to 8 percent in the tax burden faced by eligible firms, and also allowed substituting a fixed, and relatively low percentage of total revenues for the standard payroll contribution. This led to a substantial reduction in labor costs and hence created a strong incentive to hire new employees and legalize already existing labor relationships. The motivation behind the reductions in direct and indirect taxes achieved through SIMPLES was to enable small, unskilled labor-intensive firms to compete more effectively with larger enterprises for which high tax burdens are more manageable due to scale economies.

To estimate the casual effect of SIMPLES, Fajnzylber et al. (2011) employs two strategies: RD and DID (using ineligible firms as control group)<sup>7</sup> . The RD approach regards SIMPLES as an exogenous event for the small interval of firms who were born about the time of the introduction of SIMPLES. RD exploits the sample immediately around the introduction of SIMPLES to identify the effect of formality on firm performance for those firms that formalize because of a change in circumstances such as the introduction of SIMPLES. Using an extensive Brazilian micro-enterprise survey, the study finds that for RD and DID approaches respectively, SIMPLES led to an 11.6 percent and 7.1 percent increase in licensing rates, an increase of 7.5 percent and 6.4 percent in firms registered as formal legal entities, an increase of micro-firm registration of 6.3 percent and 5.7 percent, an increase in tax registration of 7.2 percent and 2.8 percent (not significant in DID), an increase in tax payments of 3.1 percent and 4.6 percent, and an increase in social security contributions of 4.3 percent (in RD only). The effect of SIMPLES on formality is often roughly twice as large in firms with employees. Older, better educated, male entrepreneurs are more likely to be formal. So are those who entered voluntarily and, especially, because of family tradition. Retail trade, transportation, restaurants, and lodging have the highest formality rates, while manufacturing, construction and personal services have the lowest. The firms that have obtained licenses have 55–57 percent more revenues and 45–49 percent higher profits than non-licensed firms. If only firms with employees are considered, the

> 7 SIMPLES explicitly excluded from program eligibility all activities that by law require the employment of professionals with regulated occupations. Examples of ineligible activities include the manufacturing of chemical products, machinery and equipment, as well education and health services. Incorporated companies were also not eligible for SIMPLES, nor were firms with government or foreign ownership, and firms operating in some selected sectors including financial services, real estate, private security, warehousing, and the manufacture of tobacco and beverages. In case of DID, the endogenous formality indicators are instrumented by period of SIMPLES introduction, age and gender of the entrepreneur and their interactions and these instruments are weighted by a RD weighting scheme that receives higher weights nearer the SIMPLES introduction window to improve the quality of instruments.

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