Labour demand and informal employment in Egypt’s manufacturing sector

Egypt’s manufacturing sector faces a dual challenge of weak job creation and persistent informality. Drawing on survey evidence on business behaviour and labour market dynamics, this column explains why job creation is limited and informal work remains such an integral part of how firms organise production. The generation of more formal jobs requires a comprehensive policy approach, one that goes beyond enforcement of labour regulations to reshape the economic environment in which firms and workers make decisions.

In a nutshell

Informality in the labour market reflects incentives on both sides: firms benefit from lower costs and flexibility, while workers may prefer higher take-home pay or they may perceive limited benefits from formal employment.

Policies to create formal jobs that are focused solely on enforcement may backfire by raising hiring costs; effective reform requires reducing the cost of formality -including through simpler tax procedures and more proportionate labour costs - while increasing its benefits.

Addressing informality requires targeting informal employment within formal firms, aligning labour market and industrial policies, and adapting social protection and contribution systems to non-standard work arrangements.

Egypt’s manufacturing sector has long been viewed as a central pillar for employment generation and structural transformation. Yet despite the potential, it has not delivered sufficient job creation, particularly in terms of stable and formal employment (El-Haddad et al, 2026; Assaad et al, 2019). Informal labour remains widespread, even within firms that are formally registered.

This column draws on firm-level evidence from the Egyptian Industrial Firm Behavior Survey 2020/21 (OAMDI, 2023) to examine how firms determine their demand for labour and why informal employment persists. It highlights that overall labour demand and the intensity of informal employment within firms are shaped by different but interconnected forces, and that informality is not a temporary deviation but a persistent feature of firm behaviour.

Labour demand in Egypt’s manufacturing sector

The analysis shows that labour demand in Egypt’s manufacturing sector is closely tied to firm capabilities and market orientation. Firms that are better capitalised, more innovative and more integrated into external markets tend to employ significantly more workers. In particular, firms that export, adopt technology, invest in research and development, and provide training to their workers consistently exhibit higher employment levels.

Managerial characteristics also matter: firms led by more highly educated managers employ more workers, suggesting that managerial capacity plays a critical role in scaling operations. Location is another important factor, as firms situated in industrial zones tend to have higher employment levels, which is likely to be reflecting better infrastructure, access to services and clustering effects.

At the same time, there are clear constraints on labour demand. Higher wages are associated with lower employment, reflecting the cost sensitivity of hiring decisions. Sole proprietorships employ substantially fewer workers than other types of firms, pointing to the importance of legal structure and organisational capacity.

Consistent with firm-level evidence, higher productivity reflects efficiency gains in labour use, meaning that fewer workers are required per unit of output. In the Egyptian context, these gains are not offset by sufficient expansion in output, so productivity improvements do not translate into higher employment. More broadly, the findings suggest that Egypt’s challenge is not simply a lack of firms, but a lack of firms that are able to grow, innovate and compete. These are precisely the firms that generate employment, yet they remain relatively limited in number.

Drivers of informal employment

The factors associated with informal employment differ. Informality is widespread within formal firms, accounting for nearly a quarter of total employment on average, and exceeding half of employment among firms that use informal labour. This indicates that informality is not confined to marginal or small-scale activities, but is embedded within the core functioning of the manufacturing sector.

The evidence shows that informal employment is more prevalent in private sector firms, in sole proprietorships and in firms that rely on part-time workers. It is also more common in firms that do not adopt technology. Firms led by less educated managers are likewise more likely to rely on informal labour.

Importantly, factors such as firm size, wages and productivity do not appear to explain the use of informal labour once other characteristics are taken into account. This finding challenges the common perception that informality is primarily a feature of small, low-wage or low-productivity firms.

Instead, the findings suggest that informality is a deliberate component of firms’ labour strategies. Firms may rely on informal workers to reduce labour costs, maintain flexibility and operate within an environment where enforcement of labour regulations is uneven. In this sense, informal labour is not simply a residual category, but an integral part of how firms organise production.

The persistence of informal labour becomes even more evident when examining how it evolves over the lifecycle of firms. A common assumption in policy discussions is that firms will gradually formalise as they grow and mature. But the evidence does not support this view. Changes in the share of informal employment over time are minimal. On average, informality declines by only a fraction of a percentage point per year, and the vast majority of firms show no change at all. This indicates a high degree of stability in firms’ reliance on informal labour.

Different types of firms follow different trajectories, but none point to a clear path towards full formalisation. Firms that begin fully formal often increase their use of informal workers over time. Firms that make the transition from informal to formal status continue to rely heavily on informal labour even after formalisation. Rapidly growing firms may also increase their use of informal workers, suggesting that expansion can be supported by flexible, informal employment arrangements.

Taken together, these patterns point to a structural equilibrium in which informality persists because it serves functional purposes for firms.

Implications for policy

These findings have important implications for policy. First, they suggest that approaches focused solely on increasing enforcement of labour regulations are unlikely to be effective. While enforcement is necessary, it does not address the underlying incentives that lead firms to rely on informal labour. In some cases, stricter enforcement without complementary measures may even backfire by reducing employment through higher costs of hiring.

Second, the persistence of informality reflects the fact that it often benefits both firms and workers. Firms gain from lower costs and greater flexibility, while workers may prefer higher take-home pay or they may not perceive sufficient benefits from formal employment. Effective policy must therefore address incentives on both sides of the labour market.

This could include reducing the cost of formal employment by lowering transaction costs, for example, through simplified tax procedures and reduced or subsidised social insurance contributions, as well as increasing the benefits of formality through improved access to services and utilities, social protection and labour rights (Barsoum and Selwaness, 2022; Selwaness and Barsoum, 2025).

Third, the strong link between labour demand and firm capabilities highlights the importance of aligning labour market policy with industrial policy. Supporting firms in adopting technology, entering export markets and improving management practices is not only important for productivity, but also for job creation.

Expanding access to finance, particularly for small and medium-sized enterprises, can further enable firms to grow and formalise their operations. Crucially, employment growth reflects firms’ ability to expand and upgrade, which in Egypt remains constrained by weak integration into global value chains and a non-competitive business environment (El-Haddad, 2020; El-Haddad and Zaki, 2023).

More broadly, this also helps to explain why manufacturing has not delivered the expected employment gains, despite its potential role in structural transformation. Even among exporters, which employ more workers on average, their limited number and scale constrain their aggregate contribution to job creation. As a result, improvements in firm capabilities do not readily translate into broad-based employment growth.

Finally, the findings underscore the need to rethink how informality manifests within formal firms. Rather than viewing firms as either formal or informal, and assuming that all workers in those firms share the same status, it is more accurate to recognise that many formal firms operate with a mix of formal and informal labour.

Policies should therefore focus on reducing informality within firms, rather than assuming that the formal registration of the firm alone is sufficient. This requires better adaptation of social protection to different employment relationships, particularly for non-standard forms of work, including aligning wages and social insurance contributions with working hours to allow for better accommodation of part-time employment, alongside policies that make formal employment more attractive and feasible for both firms and workers.

Conclusion

In conclusion, Egypt’s manufacturing sector continues to face a dual challenge of weak job creation and persistent informality. Strong labour demand is concentrated among a subset of dynamic, capable firms, while informal labour remains a widespread and enduring feature of production.

Informal employment is widespread within formal firms and remains stable over the firm lifecycle, challenging the assumption that firm growth and formalisation naturally go hand in hand. As such, informality is not a transitional phase that firms naturally outgrow, but a persistent and structural feature of firm behaviour, shaped by existing incentives and constraints.

Addressing this requires a comprehensive policy approach that goes beyond the enforcement of labour regulations to reshape the economic environment in which firms and workers make their decisions. Without such an approach, the sector is likely to continue generating insufficient formal employment, limiting its contribution to inclusive economic development.

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