This paper investigates how enforcement of labor regulation affects the firm's use of informal labor and firm performance. Using firm level data on informal employment and firm performance, and administrative data on enforcement of regulation at
the city level, we show that in areas where law enforcement is stricter firms employ a
smaller amount of informal employment. Furthermore, by reducing the firm's access
to unregulated labor, stricter enforcement is also associated with lower labor productivity.
We control for different regional and firm characteristics, and we instrument
enforcement with a measure of the access of labor inspectors to firms. Taken together,
our findings suggest that increased access to labor flexibility significantly improves firm
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