instance of it is between formal sector wage employment and own account work or informal sector employment.<sup>5</sup> A second is between public sector employees and private sector wage earners.<sup>6</sup> If segmentation does indeed exist along either of these divides, then it is also possible that some proportion of the unemployed have been rationed out of paid jobs or out of self-employment by non-price factors.

Existing formal tests of segmentation rely on a host of restrictive assumptions including the log normality of potential earnings and the absence of state dependence in mobility costs, tastes and skills.<sup>7</sup> No attempt is therefore made in this paper to carry out any such tests, or formally establish if Ethiopia’s urban labor market is segmented.<sup>8</sup> Instead, we look at changes in variables that define segmentation with a view to assessing whether these changes would have strengthened or reduced it if it in fact existed over the survey period. Unexplained and non-compensating wage differentials that cannot be attributed to differences in comparative advantage or to selectivity are sustainable only if the market as one in which a) rewards vary across sectors for equally productive workers and b) wages are rigid at least in one (-presumably the high-paying) sector of the labor market as a state in which equally productive worker are rewarded.

5 The classic story of segmentation along the formal vs. informal dichotomy is Fields’ (1975) extension of the Harris -Todaro (1970) model of an underdeveloped economy’s labor market quantity-adjusting to shocks through changes in unemployment and rural-to-urban migration in the face of wage-rigidity. Stiglitz (1974), Shapiro and Stigliz (1984) and Bulow and Summers (1985) provide efficiency wage explanations to the wage-rigidity assumed in the Harris-Todaro model. The extension by Fields introduces job search costs that rural-to-urban migrants financed by entering a low wage, low productivity no-barrier-to entry sector upon arrival to towns. Both entry barriers and wage premiums are essential features of Fields’ model of segmentation. Rauch (1991) provides an alternative occupational-choice-cum-industrial-organization perspective to the modelling of the duality between the formal and the informal sectors of the economy. Although the dichotomy in Rauch’s model is defined in terms of departures from an optimal size distribution of firms rather than from an optimal distribution of workers and earnings per se, it also arises from (government imposed) price rigidity in the labor market.

6 The large body of empirical work comparing pay rates between the two sectors is overwhelmingly focused on advanced economies, and is concerned not so much with labor market segmentation as with the import of pay gaps to public finances or to the ability of government agencies to attract skilled workers. There has nonetheless been significant interest in public vs. private sector wage gaps in developing economies as well, partly out of similar policy concern as in advanced economies (e.g. Stevenson, 1992; Heller and Tait, 1994), and also in the context of testing the segmentation hypothesis (Lindauer, 1991). Examples include Lindaur and Sabot (1983) on Tanzania, Van der Gaag and Vijerberg (1988) on Cote d’Ivoire, Terrel on Haiti (1993), and Nielsen and Rosholm (2001) on Zambia. Regardless of their sign, unexplained and non-compensating public sector pay premia would be indicative of segmentation, since mobility must be impeded in one direction or the other for them to exist.

7 Heckman and Hotz (1986) and Magnac (1991) discuss the assumptions in the context of the switching regression test proposed in Dickens and Lang (1985).

8 On balance empirical studies of labor market studies on middle income developing economies reject the segmentation hypothesis. See, for example, Magnac (1991) on Colombia, Maloney (1999) on Mexico, and Pratap and Quintin (2005) on Argentina.

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