Mar 24, 2011

Informal Economy

In the economic development classes students usually ask if the informal economy is a good or a bad think for a country. It is good in the sense that it provides a lot of jobs, specially in developing economies, for this countries the informal economy is the rule, and the formal economy is the exception (the informal economy represents more than 90% of the total economy in countries like Haiti or Burkina Faso). The problem however is that a large informal economy is a symptom of something else: low quality governance, cumbersome transaction and bureaucratic procedures, government corruption, or high poverty. Although the informal economy provides jobs to millions in developing countries, it also contributes to perpetuate poverty and inhibits long term economic growth. 

This is a very recent study on the unofficial economy in Africa:
We examine the productivity of informal firms (those that are not registered with the government) in 24 African countries using field work and World Bank firm level data. We find that productivity jumps sharply if we compare small formal firms to informal firms, and rises rapidly with the size of formal firms. Critically, informal firms appear to be qualitatively different than formal firms: they are smaller in size, produce to order, are run by managers with low human capital, do not have access to external finance, do not advertise their products, and sell to largely informal clients for cash. Informal firms thus occupy a very different market niche than formal firms do, and rarely become formal because there is very little demand for their products from the formal sector.

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