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Strict duality and overlapping productivity distributions between formal and informal firms

Author

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  • Allen, Jeffrey
  • Nataraj, Shanthi
  • Schipper, Tyler C.

Abstract

This paper develops a multi-industry general equilibrium model where entrepreneurs within each industry can decide to operate formally or informally. The model generates a rich set of predictions including productivity cut-offs for formal and informal firms to operate within different industries. In doing so, it matches empirical research that finds an overlap in the aggregate productivity distributions of formal and informal firms, while being consistent with theoretical predictions of strict duality within industries. Our explanation for this outcome is that it is natural result of fixed costs varying across industries. We offer evidence that the overlap between formal and informal firms in the aggregate is larger than the overlaps within industries for the case of Indian manufacturing establishments. Our model is also consistent with other features of the data in that it can explain high levels of competition between formal and informal firms that decrease with formal firm size.

Suggested Citation

  • Allen, Jeffrey & Nataraj, Shanthi & Schipper, Tyler C., 2018. "Strict duality and overlapping productivity distributions between formal and informal firms," MPRA Paper 86347, University Library of Munich, Germany.
    • Handle: RePEc:pra:mprapa:86347
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    References listed on IDEAS

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    Cited by:

    1. Hernando Gutierrez, Luis & Rodriguez-Lesmes, Paul, 2023. "Productivity gaps at formal and informal microfirms," World Development, Elsevier, vol. 165(C).
    2. Emmanuel U. Haruna, 2023. "The multidimensional effect of financial development on the shadow economy in Africa: A dynamic panel analysis approach," International Economics and Economic Policy, Springer, vol. 20(2), pages 327-365, May.
    3. Gutiérrez, L. H. & Rodríguez- Lesmes, P., 2022. "Informal versus Formal: Microfirms' Productivity Gaps," Documentos de Trabajo 20226, Universidad del Rosario.
    4. Xinxin Ma, 2023. "Internet usage and the income gap between self‐employed individuals and employees: Evidence from China," Review of Development Economics, Wiley Blackwell, vol. 27(3), pages 1509-1536, August.
    5. Roberto Dell'Anno, 2022. "Theories and definitions of the informal economy: A survey," Journal of Economic Surveys, Wiley Blackwell, vol. 36(5), pages 1610-1643, December.
    6. Brian McCaig & Nina Pavcnik, 2021. "Entry and Exit of Informal Firms and Development," IMF Economic Review, Palgrave Macmillan;International Monetary Fund, vol. 69(3), pages 540-575, September.
    7. Caro, Paolo Di & Sacchi, Agnese, 2020. "The heterogeneous effects of labor informality on VAT revenues: Evidence on a developed country," Journal of Macroeconomics, Elsevier, vol. 63(C).

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    More about this item

    Keywords

    informality; competition; dual view; productivity;
    All these keywords.

    JEL classification:

    • E26 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Informal Economy; Underground Economy
    • O17 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - Formal and Informal Sectors; Shadow Economy; Institutional Arrangements

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