Informal firms in developing countries: entrepreneurial stepping stone or consolation prize?
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The potential dynamic benefits of a firm having the option to adopt informal status are analysed. Informality may be a stepping stone, without which formality may never be achieved. This result is obtained for a broad range of realistic parameter values, suggesting a potential dynamic case for government support of informal firms. Informality may alternatively play a converse role as a consolation prize, with a firm only entering an industry (formally) because it recognizes that if profitability is disappointing, it can switch to informality. However, this result is obtained for a range of parameter values so narrow as to be of no practical significance.
JEL ClassificationsO17 M21 D2 L26
I am grateful for discussions with Saul Estrin and for excellent research assistance by Dilly Karim. I also thank three anonymous referees for helpful comments.
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