In this paper, we develop and estimate a structural model with two different
employment sectors; namely public and private sectors, in a labor market with
search frictions with heterogeneous productivities. This allows us to then extend
the model to segment the private sector into formal and informal sectors. The
model aims at exploring the labor market dynamics within an imperfect-information
environment particularly in developing countries where sizable public and informal
sectors exist. Following Bradley et al. (2012) we assume the wage distribution
and employment rate in the public sector as exogenous policy parameters. The
private sector wage distributions and employment rates are however determined
endogenously. Profit-maximizing firms choose endogenously whether to locate in
the informal or formal sector, all taking into consideration their optimal response to
the public sector employment policies. Aiming to reflect reality the closest possible,
job turnover is sector specific and transitions between sectors depend on the worker’s
decision trying to maximize his expected lifetime utility, i.e current utility as well
as the expected gain or loss. The model is estimated using Egyptian and Jordanian
labor market panel surveys (ELMPS2012, ELMPS2006 & JLMPS2010) by a method
of matching empirical and theoretical moments. We use the model then to simulate
the impact of various counter-factual labor market policies.