The very high level of informal labour in Colombia is a symptom of the labour market is not functioning properly. Moreover, this undesirable outcome is highly heterogeneous across the country: the differences in the labour informality rate between cities can be higher than 20 percentage points. We provide evidence that the abnormal level of the minimum wage is a major factor behind such outcomes. By using a generalised method of moments (GMM) panel approach for data between 2007 and 2016, our results show that the high minimum wage (relative to the 70th percentile of the wage distribution) has a positive and significant effect on the labour informality rate, and that such an effect is disparate across regions. This is explained by the mismatch between local labour productivity of less–skilled workers and the level of the national minimum wage. These should be compelling reasons to introduce a regionally differentiated minimum wage instead of the current national one that Colombia has. We suggest how to introduce the regional minimum wage.
