Are Public Sector Workers Underpaid? Appropriate Comparators in a Developing Country

Abstract

Does the public sector overpay or underpay workers relative to what they could earn in the private sector? Usual comparisons focus on similar jobs, but in a developing country it is more sensible to focus on similar workers, as shown by the case of Vietnam.

How is public sector compensation best aligned with the market? In industrial countries a common reference is the salary paid by private employers for similar jobs (the "jobs approach"). But comparable jobs are formal, and in developing countries the relevant alternative for many public sector workers is informal sector employment.

Another approach uses as a reference the earnings of similar workers in the private sector, regardless of whether their jobs are formal or informal (the "workers approach"). A potential shortcoming of this approach is that workers may differ in characteristics that are unobservable. Bales and Rama assess the importance of this shortcoming by relying on five econometric methods, four of which correct the bias from unobservable characteristics.

The authors focus on state-owned enterprises in Vietnam, which recruited workers on the basis of political loyalty and other unobservable characteristics. A massive downsizing program, which led to the departure of the most entrepreneurial workers, may have exacerbated the selection bias. However, all the results obtained with the workers approach fall within a relatively narrow range. They suggest that workers in state-owned enterprises are overpaid by 20 percent or more. In contrast, the jobs approach indicates that they could earn two to six times more in the private sector.

This paper - a product of Public Services for Human Development, Development Research Group - is part of a larger effort in the group to understand employment and pay issues in the public sector. The study was funded by the Bank's Research Support Budget under the research project "Efficient Public Sector Downsizing" (RPO 683-67). Martin Rama may be contacted at [e-mail].