informality - De Mel, McKenzie and Woodruff (2013)

Question 1

what is the informal sector like in sri lanka

Answer 1

1/5 of firms are unregistered
- leads to lower tax collections restricting the goverment ability to finance public services
- leads to inefficient allocation of resources in the economy as informal firms have diffrent marginal production costs compared to formal firms
- some firms complain that land tennacy prevents from them becoming formal

Question 2

what was the research design

Answer 2

• Work with a sample of informal firms with 1 to 14 paid employees.
• For a random subset of the sample, reduce the information costs and
  increase the monetary benefits of formalization.
• Control Group: business-as-usual.
  2. Treatment 1: information on costs and benefits of, and procedures for,
  registering their firm with the relevant authority. Also, they were reimbursed
  for the (modest) direct cost of registration.
  3. Treatment 2: information and reimbusement + 10,000 Sri Lankan Rs ($88)
  4. Treatment 3: information and reimbusement + 20,000 Sri Lankan Rs ($175)
  5. Treatment 4: information and reimbusement + 40,000 Sri Lankan Rs ($350)

Question 3

results

Answer 3

Providing information and reimbursing the registration costs did not induce
firms to register.
- 17-22 percent of eligible firms registered when offered Rs 10K or 20K; just
under half a month’s and one month’s profits for the median firm.
- 48% registered when offered Rs 40K.
- Few of those who did not register when offered 40K (Treatment 4)
registered when given additional time or when offered Rs 80K.

Question 4

what are the long term effects

Answer 4

• Three follow-up surveys of these same firms were conducted at 15, 22, and 31
  months after the intervention to examine levels of profits, expenses and attitudes.
• Firms that formalized are found to have higher profits …
• Increase in advertising, but no increase in receipt of govt. contracts, use of
  bank accounts or loans, or participation in govt. programs.
  -Firms that formalize are more likely to trust local govt. and agree that
  paying taxes is a civic duty,
• believe small business are taxed too much.

Question 5

what were the policy lessons

Answer 5

• supports are downward sloping demand curve
• Supports the view that firms are making rational cost-benefit calculations.
  -Entry regulations are not the main driver for informality in this context
• Cost for formalisation are less important compared to cost of being formal.