The Informal Sector

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	Hari Srinivas
	Concept Note Series E-115. June 2020.

▣ But what is the informal sector?

The informal sector is best defined by what it is not - enterprises operating in the informal economic sector do not have a license to operate, do not pay any taxes, and are not bound by laws and regulations, and do not have any labour or other protections - all of which normally bind private businesses. Informal enterprises are usually family-run, mostly run by low-income households, and use informal sources of finance for their operations. In developing countries, 40 to 80 percent of all economic outputs are carried out in the informal sector - 60-80 percent in Africa, 50-60 percent in Latin America and 40-60 percent in Asia.

▣ Reality of the Urban Informal Sector

Despite overall high economic growth that we have been seeing worldwide, particularly in developing countries, we still face the stark reality of social and economic inequalities and poverty that exists in cities and urban areas.

Poverty is not just about low-incomes, but is a broader lack of access to resources, and the anti-pathy or lack of capacities of governments to address the situation. Compounding this are the large numbers of people moving to cities in search of jobs and income, further exacerbating an already complex situation.

The challenge of poverty reduction was recognized by the world community and United Nations in adding it in 2015 as the first of the 17 Sustainable Development Goals - "End poverty in all forms everywhere" [United Nations, nd]

Emerging out of this tangled mess is the urban informal sector - an informal sector that defines itself by its very name: outside the strictures of the formal sector, no legal basis for setting up, and uniquely suited to meet the needs of low-income people. The informal sector therefore brings together two traits - a survival strategy on the part of the poor to earn an income or to find a place to stay, and legal status that is "unofficial" or unregulated.

▣ Negative Attitudes Towards the Informal Sector

Since the informal sector is considered unofficial (i.e. not registered or does not have a business license, does not pay taxes, does not provide adequate salaries or benefits to its workers etc.), the official governmental view of the sector as a "nuisance" that has to be "eradicated", compounds the challenges the sector faces.

The official anti-pathy revolves around issues such as

• the existence of the informal sector "encouraging" more migrants to move to cities,
• low-income migrants not having skills and capacities to be self-reliant,
• informal sector being inefficient and producing low-quality products/services, or
• informal sector enterprises produced a lot of pollution and toxic waste

Such attitudes create a status quo that benefits neither the informal sector nor the urban economy as a whole, despite the fact that - as an ILO report points oui - more than 60% or about two billion people worldwide work informally, most of them in emerging and developing countries [ILO, 2029].

▣ Recognizing the Role of the Informal Sector

But the informal sector does play a positive role in absorbing the excess capacities that migrants bring to cities, albeit it functions within a restricted and curtailed environment (due to its own shortcomings, and due to barriers placed by formal institutions).

Recognizing the positive role played by the informal sector lies in understanding that it is an integral part of the urban economy as a whole. The informal sector after all does help reduce absolute poverty [1] in cities, and provide business opportunities for the poor.

We need to realize that in many cases, the informal sector is a part of supply chains that support formal businesses and industries in a city, and more importantly, are critical to support urban lifestyles with necessary products and services.

▣ Policies towards the Informal Sector

In such an environment of realities of, and anti-pathies towards, the informal sector, the policies that would support the sector without destroying the essential informality features [2] of the enterprises can be divided into four parts.

As illustrated in Figure 1, the dual axis continuum divides the four sets of policies into "focussed" and "Broad" policies along the horizontal axis, and into "internal" and "external" policies along the vertical axis.

On the whole, the informal sector would need better organizational management within their set ups, and mainstreaming into the urban economy. Specifically, the sector would need focussed support services from formal institutions, as well as capacity building to better respond to opportunities and to improve their product/service qualities.

Figure 1: Four corners of policies that support the informal sector.

CORNER 1.	Capacity Building: The core policy for the informal sector lies in provision of training and skills-development for entrepreneurs in order to increase the efficiency of their enterprises. Themes could include enterprise management, health and sanitation, vocational skills, financial management, etc. to be able to work in the informal sector.
CORNER 2.	Mainstreaming: Considering the current anti-pathy and negative attitudes towards the informal sector, particularly from government agencies and departments, mainstreaming the sector into the overall urban economy becomes important. This can be done through information campaigns to change negative attitudes and impressions, including awareness raising seminars and other means.
CORNER 3.	Organization: In order to better represent the needs and concerns of the informal sector to the overall urban economy, it can be beneficial to set up associations of informal entrepreneurs based along product lines or geographical communities of a city. Such associations (similar to business groups or industrial/trade associations in the formal sector) can not only articulate and represent the needs/concerns of the informal sector, but can also smoothly disseminate information on various aspects of sectoral development. Associations can also maintain a register of member-entrepreneurs or issue ID cards to their members to avoid harassment .
CORNER 4.	Support Services Support services go beyond just capacity building, and provide essential needs to informal entrepreneurs currently unavailable to them, including for example, banking services, microfinance systems that cater to their needs. Other services include provision of common facilities for groups of enterprises (especially when they are organized into groups or associations) such as common public areas, sanitation facilities, electricity and water.

▣ IS = SMEs?!

If provided the above four policy sets, can the informal sector truely function better economically and socially - not only benefiting the poor households, but also logically integrating into the formal urban economy?

Should informal enterprises indeed be considered SMEs [3] as they are in higher-income OECD countries?

SMEs in OECD Countries Across the OECD, SMEs account for a staggering 99% of all businesses, and between 50% and 60% of value-added among their high-income member countries. Almost one person out of three is employed in a "micro firm" with less than 10 employees and two out of three in an SME. In many regions and cities, SMEs have been the main drivers of job creation. In urban and rural areas, they often contribute to the identity and social cohesion of local communities [OECD 2019].

The key will be to implement policies that provide the informal sector with necessary resources and services as outlined above, to better function and integrate into the urban economy.

Figure 2: The Governance-Education-Technology policy mix for the Informal Sector

Such efforts will require the active involvement of not only national ministries and agencies, but also local municipalities to support governance actions. NGOs, vocational schools and training institutions will have to be involved in providing necessary capacitiy building and educational actions. Businesses and business groups in the formal also have a role to play in recognizing the informal sector and in assisting them in technology development and other support.

Prioritizing the policy sets outlined above will be important for developing countries that are grappling with poverty and the desire to improve quality of life and reducing economic risks. With 60-70 percent of their urban economies actually in the informal sector, such policy action takes on added significance.

ILO (2018), "Women and men in the informal economy: A statistical picture". Third edition. Rome: International Labour Organization.

OECD (2019), "SME and Entrepreneurship Outlook 2019". Paris: Organisation for Economic Co-operation and Development

United Nations (nd), "Sustainable Development Goals. Goal 1: End Poverty in all its forms everywhere". New York: The United Nations. Retrived from https://www.un.org/sustainabledevelopment/poverty/ on 1 June 2020.

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