Unlocking Private Sector Potential by Realigning Public Sector Compensation

This study by Francisco Parro and Jesica Torres shows that optimizing public sector wage premiums, especially by differentiating them by gender, can boost productivity and encourage private sector growth in Egypt. By aligning the public sector premium with economic efficiency, significant gains in output and productivity can be achieved across MENA economies.

In a comprehensive study on optimizing public sector premiums to enhance productivity in the Middle East and North Africa (MENA) region, Francisco Parro from Universidad Adolfo Ibáñez and Jesica Torres from the World Bank delve into the impact of adjusting public sector wages and employment levels to reach economic efficiency. Their research uses Egypt as a case study, examining how recalibrating the wage premium in public sector jobs could increase productivity and overall output. In a region where public sector employment forms a significant portion of the labor market, particularly for women, they find that setting public sector wages at an optimal level could lead to a 12% increase in output per worker and an 8% rise in total factor productivity (TFP). This research suggests that the current structure of public sector compensation, which often includes a premium over private sector wages, might be misaligned, causing a misallocation of talent that hampers private sector productivity.

Understanding the Public Sector Premium and Its Impacts

The public sector premium, defined as the wage and benefit advantage that public sector employees have over private sector workers, plays a key role in labor market dynamics. This premium is not just a matter of higher wages; it includes non-monetary aspects such as job stability, shorter working hours, and prestige associated with government positions. In many MENA countries, this premium attracts skilled workers, particularly women, to public sector roles, sometimes at the expense of private sector dynamism and innovation. Parro and Torres’s model considers the distribution of talent between the public and private sectors and even accounts for the home production sector, where women may engage in unpaid domestic labor instead of market work. The model’s innovation lies in identifying an optimal level for the public sector premium, which varies between men and women. The study finds that, in an ideal scenario, the public sector wage premium should be positive for women but close to zero for men. This gender-differentiated premium structure encourages high-skilled women to participate in the labor market, particularly in entrepreneurial roles, while reducing the distortion that an overly high public sector premium can have on labor allocation and productivity.

Shifting Talent to Support Private Sector Dynamism

Using data from Egypt, where public sector employment is notably high, especially among women, the researchers analyze how a recalibrated wage structure could foster a more efficient economy. In Egypt, nearly 22% of the workforce is in the public sector, with women making up about 42% of this total. Among college-educated women, two-thirds are employed in public sector roles, a level considerably higher than the global average. Parro and Torres demonstrate that by reducing the average public sector premium from 22% to around 13%, productivity gains could be achieved without diminishing the role of the public sector in supporting private sector productivity. The reduction in the public sector premium encourages more mid-to-high-skilled women to leave public jobs and either join the private sector or start entrepreneurial ventures. As a result, the demand for production labor rises, pushing wages up and incentivizing more women with lower skill levels to transition from home production to formal employment. This shift not only boosts female participation in the labor force but also supports a more balanced and productive private sector, expanding the economic base and increasing overall output.

Differentiating Premiums for Men and Women

For male workers, the model suggests that only a minimal premium should be maintained in the public sector. Since men already dominate the entrepreneurial landscape, an equalized public sector premium would inadvertently draw skilled men from private businesses to public roles, contracting the male entrepreneurial sector and reducing private sector efficiency. Therefore, the optimal premium should be nearly zero for men, allowing the private sector to retain male managerial talent while the public sector focuses on incentivizing female labor force participation. By reducing the share of male public sector managers, this approach also bolsters the size of the male entrepreneurial sector, fostering more competitive and innovative private firms.

Towards a Balanced and Productive Workforce

The productivity gains highlighted in this study are particularly relevant in countries where public sector efficiency is low, as a high premium leads to substantial distortions. The researchers point out that if the productivity boost from public sector activities is limited, as reflected by the elasticity of public goods in enhancing private sector output, a lower public sector premium would be preferable. For countries with lower elasticity values, representing less efficient public sector contributions, the potential productivity gains from reallocating talent to the private sector become even more substantial. In essence, this research underscores that optimizing public-sector employment requires not only adjusting wages but also recalibrating the size of the public sector relative to its actual economic impact.

Parro and Torres’s model illustrates that gender-specific public sector premiums offer a pathway to maximizing aggregate productivity by allowing more skilled women to contribute to private sector activities. Furthermore, aligning the public sector premium with productivity goals can encourage women who would otherwise engage in home production to enter market activities, expanding the pool of labor for entrepreneurial and production roles. The study argues that recalibrating public sector employment policies in MENA countries could lead to considerable productivity gains. As demonstrated in Egypt, reducing the public sector premium to optimal levels yields measurable economic benefits by redistributing talent effectively between the public and private sectors. These insights present a valuable framework for other developing economies in the region, emphasizing that a balanced approach to public sector compensation could foster growth and innovation across the entire economy.