essay of informal sector

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Annual Review of Economics

Volume 12, 2020, review article, informality: causes and consequences for development.

• Gabriel Ulyssea 1,2,3
• View Affiliations Hide Affiliations Affiliations: 1 Department of Economics, University of Oxford, Oxford OX1 3UQ, United Kingdom; email: [email protected] 2 Center for Economic and Policy Research, London EC1V 0DX, United Kingdom 3 IZA Institute of Labor Economics, 53113 Bonn, Germany
• Vol. 12:525-546 (Volume publication date August 2020) https://doi.org/10.1146/annurev-economics-082119-121914
• First published as a Review in Advance on May 01, 2020
• Copyright © 2020 by Annual Reviews. All rights reserved

This article reviews the economic literature on informality, its causes, and its consequences for development. It covers a comprehensive body of research that ranges from well-identified experimental studies to equilibrium macro models, and which more recently includes structural models that integrate both micro and macro effects. The results available in the literature indicate that lowering the costs of formality is not an effective policy to reduce informality but may generate positive aggregate effects, such as higher output and total factor productivity (TFP). The most effective formalization policy is to increase enforcement on the extensive margin but not on the intensive margin of informality. The former generates substantial gains in aggregate TFP and output, without necessarily increasing unemployment. However, the overall welfare impacts are likely to depend on the transitional dynamics between steady states, which remains an open area for future research.

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Informal economies around the world: measures, determinants and consequences

• Original Paper
• Published: 12 May 2018
• Volume 9 , pages 221–237, ( 2019 )

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• Ceyhun Elgin 1 &
• Ferda Erturk 2  

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This paper aims to present a comprehensive survey of the literature on the economics of informality. First, we focus on studies that aim to provide measures of informality using different methodologies. Next, we review empirical and theoretical studies focusing on the determinants as well as effects of informality. Finally, we conclude by summarizing the main findings of the literature, evaluate several policy recommendations based on our review as well as suggest some future research directions. Even though the literature on informality is growing at an increasing rate, future research efforts are very much needed, both on the theoretical and empirical side. Efforts have to be made to improve measurement of informal sector size as well as developing theoretical mechanisms for determinants and effects of informality that can be supported by empirical analysis.

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Elgin, C., Erturk, F. Informal economies around the world: measures, determinants and consequences. Eurasian Econ Rev 9 , 221–237 (2019). https://doi.org/10.1007/s40822-018-0105-5

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Received : 27 December 2017

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Published : 12 May 2018

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DOI : https://doi.org/10.1007/s40822-018-0105-5

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New Study Reveals the Complexity of the Informal Sector

Background on the book and the extracts

When the REDI3x3 project was launched in 2012, the informal sector was identified, in founding and framing documents , as a significant ‘knowledge gap’. A sub-project called ISEP (Informal-sector employment project) was launched in 2013, with the author as convenor and Caroline Skinner of UCT as co-convenor. The multi-disciplinary, data-intensive research and workshop interactions of more than twenty researchers and experts culminated in a 500-page, seventeen-chapter collective work.

The objective of the volume is to provide the groundwork for a more informed, meaningful debate and focused research on evidence-based policy options. Given an era of increased pressure for evidence-based policy-making, the work is strongly evidence- and data-driven, with quantitative contributions combined with qualitative research and case studies. The chapters reflect various methods of analysis to understand a complex phenomenon from a range of paradigmatic, disciplinary and methodological perspectives, often using new data. One aim has been to partly bridge the divides between economics and other disciplines – and, within economics, between labour economists, poverty and development analysts, and macroeconomists.

The definition of the informal sector

A key analytical distinction is that between informal-sector employment and informal employment, and between the informal sector and the informal economy. The potential confusion within these two pairs of concepts is an important one, notably from a policy perspective. In recent South African debates and analysis, one sometimes finds an imprecise use of these two concepts, an indiscriminate mixing of them, or treating them as if they are synonymous.

The formal statistical definitions can become quite technical, also reflecting practical and data collection considerations as well as differences between countries. A good reference point is the deliberations and documents of the ICLS (International Conference of Labour Statisticians), which has set international standards on official labour statistics (see Hussmanns 2003). Stats SA has adopted these standards in its QLFS, but uses a slightly different definition in the SESE. Here it suffices to formulate them in basic conceptual terms, as follows:

• Informal enterprises: enterprises, with or without employees, that are not incorporated and not registered for taxation. Sometimes the definition is limited to unregistered enterprises that have fewer than five employees (see chapters 4 and 5 in the book).
• Informal sector: all informal enterprises, their owner-operators/employers and all employees, paid and unpaid, in all economic sectors (manufacturing, retail, etc., including agriculture8). It excludes domestic workers and also subsistence agriculture, which is defined as not producing for the market but rather for own use (see Cousins, Chapter 14 in the book).
• Informal-sector employment: an enterprise-based concept, comprising those working in the informal sector as either owner-operators/employers or employees, paid and unpaid. Its focus is employment in informal enterprises.
• Informal employment: an employee-based concept which comprises all employees or workers that do not have formal employment contracts or benefits in both the informal and formal sectors as well as households (see discussion later). Its focus is employment conditions and unprotected work.
• Informal economy: all forms of informal employment: ‘all economic activi­ties by workers and economic units that are – in law or in practice – not covered or insufficiently covered by formal arrangements’ (ILO 2002: 25).9 Thus, the informal economy comprises all informal-sector employment plus informally employed workers in the formal sector and households. It is premised on the analysis of employment conditions rather than employ­ment opportunities and employment creation.

The broad concept of ‘informal employment’ was adopted by the ILO’s 2003 international labour conference (ILO 2003a, 2003b). The introduction of the broad concept of informal employment has been important in drawing attention to unprotected workers in the informal sector, the formal sector and households. However, it is evidently important to use a definition suited to the research question and the phenomena that are being examined. The two definitions refer to different things and should not be conflated. As noted by Hussmanns (2003: 2) of the ILO Bureau of Statistics:

‘Employment in the informal sector’ and ‘informal employment’ are concepts which refer to different aspects of the ‘informalisation’ of employment and to different targets for policy-making. One of the two concepts cannot replace the other. They are both useful for analytical purposes and, hence, complement each other. However, the two concepts need to be defined and measured in a coherent and consistent manner, so that one can be clearly distinguished from the other. Statistics users and others often tend to confuse the two concepts because they are unaware of the different observation units involved: enterprises on the one hand, and jobs on the other.

Appendix references

Hussmanns R (2003) Statistical definition of informal employment: Guidelines endorsed by the Seventeenth International Conference of Labour Statisticians . Geneva: ILO

ILO (International Labour Organisation) (2002) Resolution concerning decent work and the informal economy . International Labour Conference, 90th Session, International Labour Office, Geneva.

ILO (2003a) The scope of the employment relationship: Report IV . International Labour Conference, 91st Session, International Labour Office, Geneva

ILO (2003b) Guidelines concerning a statistical definition of informal employment. In Report of the conference: Seventeenth International Conference of Labour Statisticians .

[1] The idea of formalising the informal economy has received prominence due to the International Labour Organisation’s International Labour Conference 2014 and 2015 deliberations, resulting in Recommendation 204 concerning ‘the transition from the informal to the formal economy’ (ILO 2015).  

[2] The book is about the informal sector and informal-sector employment (as an enterprise-based concept). Thus it is not about the broader concepts of the informal economy and informal employment (which combine all forms of employment that are not characterised by formalised employment contracts, conditions and benefits such as legal or social protection; these could be in the informal sector but also, notably, in the formal sector and households). It is important to clearly distinguish these concepts, since the potential confusion between them is an important one, notably from a policy perspective (see the Appendix below and Fourie, Chapter 1 in the book).  

[3] The accepted definition of the informal sector excludes illegal business activities like the production and sale of drugs. Approaches that use the concept of the ‘shadow economy’ or ‘underground economy’ often include illegal activities, tax evasion, etc. as well as the informal sector. Such approaches may erroneously suggest that the informal economy is equivalent to the shadow economy and thus overestimate the size of the informal economy/sector significantly.  

[4] Median earnings for male self-employed in the informal sector were about R3 000 per month, but only R2 000 per month for informal-sector male employees (in 2014). Women in the informal sector earned about 70% of men’s earnings, which is similar to the formal-sector ratio. This gender difference is particularly pronounced among the informal self-employed, where women’s median earnings are only 50% of men’s median earnings (i.e. R1 500 and R3 000, respectively, in 2014). See Rogan and Skinner (Chapter 4 in the book) for more earnings data.  

[5] The idea of eliminating the informal sector refers to a phrase used in the 2006 AsgiSA (Accelerated and Shared Growth Initiative for South Africa) policy initiative with regard to the ‘second economy’ (see section 1 of Fourie, Chapter 5 in the book). In the long term, somewhat idealistically, it would be preferable not to have much of an informal sector, but then only as long as there is no significant unemployment.  

[6] As highlighted by Skinner (Chapter 16 in the book), there are numerous cases of actual elimination of informal-sector livelihoods, especially in cities like Johannesburg and Durban.  

[7] For example, in the GIBUS (Gauteng Informal Business Upliftment Strategy) of 2015 the discussion, especially of municipal policies, is almost exclusively about informal traders.  

[8] This term is used to indicate goods and services that can be transported readily and traded in a location distant from the one where it was produced. Goods can have different levels of tradeability, depending on the cost of transportation.  

[9] Still, male owners are more likely to have employees than female owners: being male is associated with a significantly higher propensity to employ (Chapter 5 in the book).

[10] Average share of the informal sector in total employment for 2015 and 2016: Mangaung (almost 19%) and Buffalo City (17%), Cape Town and Tshwane (about 11%), Johannesburg, eThekwini, Ekurhuleni and Nelson Mandela Bay (14%–15%). Also see Rogan and Skinner (Chapter 4 in the book), who used 2014 data.

[11] For two townships in Midrand in Gauteng, Charman (2017: 5, 7) finds that 32% and 34% of enterprises are on the high street – higher than in the Western Cape sites, but still quite low.  

[12] Research on food security in poorer households shows a preference for frequent purchases due to lack of refrigeration as well as irregular income.  

[13] This also applies to informal enterprises in non-residential areas, especially in formal commercial areas in cities as well as towns. In small towns the ‘formal’ business areas may gradually degrade and become informal as informal traders, for example, increasingly occupy pavement areas around formal businesses. Essentially, in policy-making the interests of the informal sector and the formal sector, including formal residential areas, must be harmonised.

[14] Informal-sector agriculture is conceptually distinguished from subsistence agriculture by the farmer regularly selling a substantive amount of output in informal or formal markets. Making the distinction in practice is extremely difficult – in the real world, these analytical distinctions are blurred.

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The importance of the informal economy in Africa

This paper analyses the features and importance of the informal economy in Africa

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The Role of the Informal Sector in the Economic Development of Local Areas in South Africa

• May 21, 2023

The informal sector plays a crucial role in the economic development of local areas in South Africa. It encompasses a wide range of economic activities that are not regulated by the government or formalized through official channels. This sector is characterized by its flexibility, low entry barriers, and ability to provide employment opportunities for a significant portion of the population. We will explore the various ways in which the informal sector contributes to the economic development of local areas in South Africa, focusing on the municipalities and their specific challenges and opportunities.

Employment Generation and Poverty Alleviation

The informal sector is a significant source of employment in South Africa, particularly in local areas and municipalities. It provides income-generating opportunities for individuals who are unable to secure formal employment due to various factors such as limited education, lack of skills, or a weak job market. The informal sector helps to alleviate poverty by offering self-employment opportunities and creating jobs for a substantial number of people.

Contribution to GDP and Economic Growth

The informal sector makes a substantial contribution to the Gross Domestic Product (GDP) of South Africa. Although accurate data on the sector’s size and contribution is challenging to obtain due to its informal nature, estimates suggest that it accounts for a significant share of the country’s economic output. In local areas and municipalities, where formal employment opportunities may be limited, the informal sector becomes a vital driver of economic growth and development.

Entrepreneurship and Innovation

The informal sector fosters entrepreneurship and serves as a breeding ground for innovation in local areas of South Africa. Many individuals start small businesses in this sector, utilizing their skills and creativity to identify niche markets and meet local demands. The sector’s flexible nature allows for experimentation and adaptation, leading to the development of new products, services, and business models. These entrepreneurial activities contribute to economic diversification and the overall vibrancy of local economies.

Integration of Marginalized Groups

The informal sector often provides a means for marginalized groups, such as women, youth, and individuals from disadvantaged backgrounds, to participate in economic activities. In South Africa, where historical inequalities persist, the informal sector offers a pathway for these groups to enter the economy and improve their livelihoods. By providing opportunities for economic empowerment, the informal sector helps in reducing social disparities and promoting inclusive growth in local areas and municipalities.

Local Trade and Supply Chains

The informal sector plays a vital role in local trade and supply chains, particularly in rural areas and townships. Informal markets, street vendors, and small-scale enterprises form the backbone of local economies, providing goods and services to the surrounding communities. These businesses create a multiplier effect by supporting upstream and downstream activities, such as sourcing raw materials, transportation, packaging, and distribution. Thus, the informal sector contributes to the overall economic vitality and resilience of local areas.

Tourism and Cultural Heritage

South Africa is known for its rich cultural heritage and diverse tourist attractions. The informal sector plays a crucial role in supporting tourism activities in local areas and municipalities. Informal traders, crafters, and tour guides offer unique experiences to tourists, showcasing local traditions, arts, and crafts. The sector’s contribution to tourism not only generates income but also preserves and promotes cultural heritage, fostering a sense of pride and identity within the local communities.

Challenges and Opportunities for the Informal Sector

While the informal sector presents numerous opportunities for economic development, it also faces significant challenges. Limited access to finance, lack of formal recognition, inadequate infrastructure, and regulatory constraints are some of the key hurdles that informal businesses encounter. Addressing these challenges requires a multi-dimensional approach that involves collaboration between local governments, private sector organizations, and civil society. By recognizing the potential of the informal sector and addressing its challenges, local areas and municipalities in South Africa can harness its full potential for economic development.

To support the growth and development of the informal sector, local governments can implement policies and regulations that facilitate formalization and provide support services tailored to the needs of informal businesses. This includes simplifying registration processes, offering financial assistance and training programs, improving access to markets, and creating a conducive business environment. Collaboration with microfinance institutions and development organizations can also help in providing access to capital and financial services for informal entrepreneurs.

Investments in infrastructure development are crucial for the informal sector to thrive. Improving transportation networks, marketplaces, and basic amenities such as water and sanitation facilities can enhance the productivity and competitiveness of informal businesses. Local governments should also consider spatial planning that integrates the needs of informal activities, creating designated areas or zones where informal businesses can operate without hindrances.

Furthermore, fostering partnerships between formal and informal sectors can unlock synergies and create mutually beneficial relationships. For instance, formal businesses can collaborate with informal suppliers or subcontractors, providing them with access to larger markets and enhancing their capacity. Similarly, formal businesses can benefit from the flexibility, agility, and local knowledge of informal enterprises. These partnerships can contribute to the formalization and upgrading of informal businesses, leading to increased productivity and competitiveness.

Local areas and municipalities can also leverage the potential of the informal sector by promoting entrepreneurship education and skills development programs. By equipping individuals with the necessary knowledge and skills, they can enhance their chances of success in the informal sector. This can be done through vocational training, mentorship programs, and business development initiatives. Additionally, fostering an entrepreneurial culture and mindset within local communities can encourage innovation and self-employment.

In conclusion, the informal sector plays a vital role in the economic development of local areas and municipalities in South Africa. Its contributions range from employment generation and poverty alleviation to entrepreneurship, innovation, and the integration of marginalized groups. By recognizing the potential of the informal sector and addressing its challenges, local areas and municipalities can harness its full potential for economic development. Through supportive policies, infrastructure development, partnerships, and skills development initiatives, the informal sector can thrive, contributing to inclusive growth, poverty reduction, and the overall well-being of local communities in South Africa.

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The Importance of the Informal Sector in South Africa

South Africa, a country of immense economic potential, has a diverse and thriving informal sector that plays a significant role in the nation’s socioeconomic fabric. The informal sector, often overlooked, encompasses a range of economic activities that are not formally regulated, taxed, or recorded. This sector includes street vendors, home-based businesses, small-scale entrepreneurs, and many other economic activities that are essential to South Africa’s development. In this article, we explore the importance of the informal sector in South Africa and its contribution to the country’s economy, employment, and social development.

Understanding more about the Informal Sector

In South Africa, the informal sector refers to economic activities that are not regulated or registered with the government. This includes:

• self-employed individuals,
• small business owners, and
• street vendors who operate without formal licenses or permits.

The informal sector is characterized by its flexibility , low barriers to entry, and reliance on cash transactions.

In contrast, the formal sector in South Africa refers to the regulated economy that is governed by laws and regulations. This includes businesses that are registered with the government, pay taxes, and comply with labor laws. The formal sector is typically associated with higher-paying jobs, greater job security, and access to benefits such as pensions and health insurance.

The informal sector in South Africa has a long historical evolution. During the apartheid era, non-white South Africans were excluded from the formal economy and forced to create their own economic opportunities through the informal sector. This trend continued after the end of apartheid as many individuals struggled to find employment in the formal economy due to high levels of unemployment and a lack of skills and education.

Today, the informal sector in South Africa is estimated to employ over 2.5 million people and accounts for a significant portion of the country’s GDP. However, informal workers often face challenges such as low pay, lack of job security , and limited access to social protections such as healthcare and retirement benefits.

Economic Contribution

• GDP Boost: The informal sector contributes an estimated 10-15% of South Africa’s Gross Domestic Product (GDP), which is a substantial percentage considering its informal nature. This sector is an important driver of economic growth and can be seen as a pillar of resilience during times of economic downturn.
• Small Business Incubator: The informal sector provides an environment for entrepreneurs to test their ideas and build a foundation for their businesses. Many formal businesses in South Africa have their roots in the informal sector, having transitioned as they grew and became more established.
• Foreign Direct Investment: The informal sector is also a source of Foreign Direct Investment (FDI), as it attracts investors looking for untapped markets and opportunities. FDI in the informal sector helps stimulate economic growth and job creation.

Employment Opportunities

• Job Creation: The informal sector is a significant employer in South Africa, accounting for around 30% of total employment. For many people, particularly those with limited formal education or skills, the informal sector is often the only viable employment option.
• Inclusive Growth: The informal sector is a major source of income for marginalized communities, such as women, youth, and migrants. By providing these groups with opportunities to earn a livelihood, the informal sector supports inclusive growth and poverty reduction.

Social Development

• Poverty Alleviation: The informal sector plays a critical role in poverty alleviation by providing an essential safety net for many low-income households. In South Africa, a substantial number of households rely on income from informal work to supplement their earnings and meet basic needs.
• Skill Development: Informal sector activities often involve acquiring valuable skills that can be transferred to formal employment opportunities. By offering the chance to develop a range of practical skills, the informal sector helps equip individuals for success in the labor market.
• Community Building: The informal sector fosters social cohesion and community development by encouraging local production, consumption, and trade. Informal markets can bring people together, stimulate cultural exchange, and promote a sense of belonging among community members.

The informal sector in South Africa holds significant importance in the country’s economic, employment, and social development. This often-overlooked sector has the potential to drive inclusive growth, reduce poverty, and contribute to a more equitable and sustainable society. To fully harness the potential of the informal sector, the South African government and stakeholders should adopt policies and programs that facilitate its growth, formalization, and integration into the broader economy, ultimately benefiting the nation as a whole.

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Uzoka-anite: informal sector key to growth, plagued by regulatory complexities, others.

*Era of lip service to SMEs over, SMEDAN boss declares

James Emejo in Abuja

Minister of Industry, Trade and Investment, Dr. Doris Uzoka-Anite, has said despite being the lifeblood of Nigeria’s economy, Micro, Small and Medium Enterprises (MSMEs) are currently constrained by regulatory complexities, limited access to finance, and high production costs, among others. Uzoka-Anite made the assertion at the weekend in Abuja during the lunch of the Informal Economy Report 2024.

Director General, Small and Medium Enterprise Development Agency of Nigeria (SMEDAN), Mr. Charles Odili, declared at the same event that the era of lip service, on the part of government, to development of small businesses was now a thing of the past. Uzoka-Anite said the sector had the potential to drive job creation, rural industrialisation, and innovation, adding that its significance extends across various sectors, contributing substantially to national development.

She said the MSMEs sector played a pivotal role in the implementation of President Bola Tinubu’s Renewed Hope agenda. The agenda focuses on six key pillars, including improving ease of doing business, policy development, increasing access to financing and global markets, driving investments, and boosting job creation.

She said despite the obstacles, the federal government had initiated key interventions to empower small businesses, including the N200 billion presidential palliative programme, which offered grants to nano businesses and low interest loans to MSMEs. Other interventions include the State Enterprise and Empowerment Programme (SEEP), providing affordable credit to micro enterprises, and the conversion to Compressed Natural Gas (CNG) trucks for goods transportation, among others.

Uzoka-Anite said while addressing key challenges and leveraging strategic partnerships, these initiatives aimed to unlock the full potential of the country’s informal sector, and drive economic diversification and sustainable growth in line with Tinubu’s vision for national development.

In his own remarks, Odili said small businesses remained the engine of the economy, and served as the pistons providing momentum. He said the vast majority of the country’s 40 million small businesses resided in the informal sector, which accounted for millions of jobs in the economy. He said ensuring their survival and growth remained crucial for poverty elimination, rural industrialisation, and the enhancement of livelihoods – three core mandates of SMEDAN. The SMEDAN director-general stated that government’s regulations used to be challenging for SMEs “but no more”.

He said government was currently doing a lot for operators in the sector, adding that supposed beneficiaries are often not aware of these programmes.

Odili said the report will provide informed decisions to policy makers and planners and benefits for the sector by making the players more informed of government’s interventions.

He urged SMEs to endeavour to join cooperatives to benefit from such interventions, which included loans and grants.

“We are not paying lip services to SMEs anymore,” he said.

The report examined developments in the informal sector, which were often underrepresented. It observed that the informal economy continued to play an undisputable role in the country’s economic fabric.

The report, among other things, revealed that the sector included a significant portion of Nigeria’s entrepreneurial activity, though it faced significant sustainability challenges.

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