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What Determines Firms’ Decisions to Formalize?

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  • Neil McCulloch
  • Günther G. Schulze
  • Janina Voss

    ()
    (Department of International Economic Policy, University of Freiburg)

Abstract

In this paper we analyze the decision of small and micro firms to formalize, i.e. to obtain business and other licenses in rural Indonesia. We use the rural investment climate survey (RICS) that consists of non-farm rural enterprises, most of them microenterprises, and analyze the effect of formalization on tax payments, corruption, access to credit and revenue, taking into account the endogeneity of the formalization decision to such benefits and costs. We show, contrary to most of the literature, that formalization reduces tax and corruption payments. The benefits of formalization, and therefore the likelihood of being formal, also depend on characteristics such as firm size, as well as the education and ethnicity of the owner.

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File URL: http://www.vwl.uni-freiburg.de/iwipol/REPEC/fre/wpaper/DP13_mcculloch-schulze-voss_firms-decisions-to-formalize.pdf
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Bibliographic Info

Paper provided by Department of International Economic Policy, University of Freiburg in its series Discussion Paper Series with number 13.

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Length: 38 pages
Date of creation: Nov 2010
Date of revision: Nov 2010
Handle: RePEc:fre:wpaper:13

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Keywords: Formalization; rural development; rural investment climate; informal sector;

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  1. McKenzie, David & Sakho, Yaye Seynabou, 2007. "Does it pay firms to register for taxes ? the impact of formality on firm profitability," Policy Research Working Paper Series 4449, The World Bank.
  2. Pradhan, M.P. & Soest, A.H.O. van, 1995. "Formal and informal sector unemployment in urban areas of Bolivia," Open Access publications from Tilburg University urn:nbn:nl:ui:12-80489, Tilburg University.
  3. Auriol, Emmanuelle & Warlters, Michael, 2005. "Taxation base in developing countries," Journal of Public Economics, Elsevier, vol. 89(4), pages 625-646, April.
  4. Fajnzylber, Pablo & Maloney, William F. & Montes-Rojas, Gabriel V., 2009. "Does Formality Improve Micro-Firm Performance? Quasi-Experimental Evidence from the Brazilian SIMPLES Program," IZA Discussion Papers 4531, Institute for the Study of Labor (IZA).
  5. David Kaplan & Eduardo Piedra & Enrique Seira, 2007. "Are Burdensome Registration Procedures an Important Barrier on Firm Creation? Evidence from Mexico," Working Papers 0701, Centro de Investigacion Economica, ITAM.
  6. Dollar, David & Hallward-Driemeier, Mary & Mengistae, Taye, 2005. "Investment Climate and Firm Performance in Developing Economies," Economic Development and Cultural Change, University of Chicago Press, vol. 54(1), pages 1-31, October.
  7. Puhani, Patrick A, 2000. " The Heckman Correction for Sample Selection and Its Critique," Journal of Economic Surveys, Wiley Blackwell, vol. 14(1), pages 53-68, February.
  8. McKenzie, David J & Woodruff, Christopher, 2006. "Do Entry Costs Provide an Empirical Basis for Poverty Traps? Evidence from Mexican Microenterprises," Economic Development and Cultural Change, University of Chicago Press, vol. 55(1), pages 3-42, October.
  9. Dominik H. Enste & Friedrich Schneider, 2000. "Shadow Economies: Size, Causes, and Consequences," Journal of Economic Literature, American Economic Association, vol. 38(1), pages 77-114, March.
  10. Jose Scheinkman & Aureo de Paula, 2007. "The Informal Sector," 2007 Meeting Papers 117, Society for Economic Dynamics.
  11. Bruhn, Miriam, 2008. "License to sell : the effect of business registration reform on entrepreneurial activity in Mexico," Policy Research Working Paper Series 4538, The World Bank.
  12. Kaplan, David S. & Piedra, Eduardo & Seira, Enrique, 2011. "Entry regulation and business start-ups: Evidence from Mexico," Journal of Public Economics, Elsevier, vol. 95(11), pages 1501-1515.
  13. Ai, Chunrong & Norton, Edward C., 2003. "Interaction terms in logit and probit models," Economics Letters, Elsevier, vol. 80(1), pages 123-129, July.
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