Conference Paper
Low Taxes, Low Productivity? Labor Supply, Informality, and the Role of Personal Income Taxes in the MENA Region
No.
ERF32AC_13
Publisher
ERF
Date
May, 2026
Topic
J. Labor and Demographic Economics
This paper investigates the MENA Paradox, where low statutory personal income taxes coexist with low labor productivity and high informality, contradicting standard neoclassical predictions (Prescott, 2004). Extending the standard growth model to include a dual labor market and a comprehensive tax wedge, we argue that heavy reliance on flat-rate Social Security Contributions (SSCs) creates high effective marginal tax rates, driving workers into low-productivity informal employment. Calibrated simulations for Egypt, Morocco, Tunisia, and Jordan reveal that effective tax wedges often exceed 40%, significantly depressing formal labor supply. Counterfactual analysis suggests that rationalizing SSCs could increase aggregate productivity by 5-7% through labor reallocation. Panel regressions using neighboring tax rates as instruments confirm that higher effective tax wedges causally increase informality, and decomposition shows that regressive SSCs are the primary driver. We conclude that the region’s "low tax" environment is illusory and that fiscal policy must pivot from labor taxation to broader bases to escape this low-productivity trap.
Research Fellows
Ceyhun Elgin
Professor of Economics , Bogazici University