Economy, Informal


The World Bank, USA

DOI: 10.1002/9781118989463.wbeccs149

Whether a firm enters informality is often a result of the benefits and costs it derives from doing so. Both becoming and remaining formal entail a series of costs, which could also be seen as the benefits of informality. Registering a firm, paying the license fees, and generally going through the procedures required to open a business might deter individuals from doing so, and constitute entry costs. Labor regulations and taxes, on the other hand, are the costs of remaining formal. Naturally, informality also has its costs, namely the possibility of being caught by the relevant authorities, and the lack of access to the goods provided by the state. Penalties for firms and workers operating informally can be stiff, ranging from monetary fines to closure. In addition, an informal firm cannot use government services and institutions such as the police or the judicial system to protect its activities. This has a significant effect on property rights, since informal firms will lack the ability to enforce contracts judicially, therefore increasing the risk for the firm. Both as a result of this increased risk and of their inability to enter legal agreements, informal firms usually have more limited access to capital markets and financing.

Although informal economies by definition do not follow the laws and regulations established by the relevant political authority, they are far from being lawless. ...

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