Informal Economy

Informal enterprises are a powerful global economic force that affects billions of people, especially in poor countries. While their presence is obvious in the mega cities of Africa or South Asia where millions of people, caught in vicious cycles of poverty and powerlessness, struggle to survive by hawking single cigarettes, cheap watches, and other goods, the informal economy is less visible in the U.S. Yet clearly many millions of people in the United States lead economically "informal" lives: the "houseguest" who swaps household chores for room and board; the person on the corner selling sweaters and hats in winter, T-shirts and shorts in summer; the handyman who offers a better price for a new kitchen cabinet if he receives payment in cash.

To examine the place of microenterprise in the informal economy in the United States, FIELD engaged in a collaborative research project with the Institute for Social and Economic Development (ISED) Solutions, supported with funding from the Charles Stewart Mott Foundation. The purpose of the research was to increase understanding of how microenterprises operate in the informal economy and to identify implications for both practice and policy. Could informal entrepreneurs be potential new clients for microenterprise services? What would be required to help them grow their "after hours" jobs into income-generating businesses, or to become licensed operations?

Key Findings

The informal economy is that portion of the overall economy identified by the following four characteristics:

  • It involves licit but unregulated work: Enterprises, employers and self-employed individuals do not comply with standard business practices, taxation regulations and/or other business reporting requirements, but they are otherwise not engaged in overtly criminal activity.
  • It includes both employed and self-employed workers, with some engaged in both kinds of work.
  • Cash is the most common medium of exchange, although bartering also occurs.
  • Work conditions for those who labor are inferior to those found in the formal economy.

Microenterprises that operate in the informal economy display these characteristics

  • They are largely invisible or operate at low levels of visibility. They may or may not have licenses, are often engaged in casual hiring, non-reporting of income and other informal labor practices. They can be easily moved, opened or closed at will, and thus, can hide from regulation.
  • They pursue businesses similar in type to those commonly found among all microentrepreneurs, and most focus on very local markets.
  • Like other microentrepreneurs, many are income patchers; that is, they engage in multiple economic activities to generate a living.
  • They generate low revenues and have very few assets.

Motivations for staying informal included the following:

  • Lack of documentation: Undocumented individuals are particularly challenged to formalize their businesses.
  • Desire for hidden income: Working for their own informal business eliminated the need for undocumented immigrants to show documents to agencies or other prospective employers, or run the risk of being discovered with fraudulent documents. Those with certain means-tested benefits hid income so as not to jeopardize those benefits.
  • Competitive advantage: Many believe their success depends on being able to price below the formal market.
  • Costs of compliance with regulations: Others see the barriers to formality as very high.
  • Business size: For some others, the current size of the business, and their lack of interest in growth, made formalizing irrelevant. Some did not consider their informal activity a business, but rather a simple way to generate a little additional cash to support household expenses.

Because of these motivations, some are simply not interested in formalizing; others could be characterized as interested, but cautious, and finally, there are a small number who are both interested and ready to formalize their businesses.

Programs interested in assisting informal entrepreneurs should consider the following policy and program options:

  • Providing information and assistance to help informal entrepreneurs understand and comply with relevant regulation.
  • Working to ameliorate some of the more negative effects of regulation through policy advocacy.
  • Raising funds with fewer restrictions to serve more challenging populations.
  • Establishing loan limits under which unregistered businesses can access financing.
  • Developing alternative methods to verify identity, place and length of residence, and to assess the reliability of prospective borrowers
  • Using risk-based pricing in lending to unregistered businesses or those of the undocumented, and offering financial incentives to encourage formalization.
  • Extending entry level services to informal entrepreneurs, and basing continued assistance on progress towards formalization.
  • Creating policies based on sectors that allow one to work with informal businesses differently, and setting expectations accordingly.
  • Implementing specific marketing strategies that incorporate messages inclusive of informal entrepreneurs, that engage community-based organizations close to them, and that are directed to venues where they live and work.

Publications
FIELD and ISED have released several publications that detail findings from this research, including:

Literature Review: summarizes research done on the U.S. informal economy, defines its size, and describes several of the theories or perspectives that attempt to explain the existence of the informal economy in the United States and other industrialized countries. The review also characterizes the people who engage in informal work and discusses their motivations in undertaking informal work.

Ethnographic research: examines the experiences of over 100 entrepreneurs living and working in urban and rural communities. The studies share the entrepreneurs' motivations, aspirations and struggles to operate viable businesses, and explore how policies and practices could be changed to encourage more growth among  African American, Latino and rural informal businesses.

FIELD forums: three publications that introduce and characterize the intersection between the informal economy and microenterprise (Issue 14), summarize the findings from the ethnographic research (Issue 15), and introduce one program’s experience in helping low-income microentrepreneurs document their participation in the economy and take advantage of the Earned Income Tax Credit (Issue 16).

Research Design
FIELD and ISED engaged in the following activities as part of their research effort:

  • A literature review that examined the body of research that has been conducted on the informal economy in the United States.
  • Ethnographic research that examined three populations – Latinos, African Americans and Rural Americans – participating in the informal economy.
  • A convening of experts (researchers and practitioners) that reflected on the implications of the research.