Informal Unemployment and Education

This paper develops a four sector equilibrium search and matching model with informal sector employment opportunities and educational choice. We show that underground activities reduce educational attainments if informal employment opportunities mainly are available to low educated workers. More zealous enforcement policy will in this case improve educational incentives as it reduces the attractiveness of remaining a low educated worker. Characterizing the optimal enforcement policies, we nd that relatively more audits should be targeted towards the sector employing low educated workers, elsewise a too low stock of educated workers is materialized.