## _wp15245 - Section III compares Paraguay’s economy with other countries using different estimations of the

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### Defining informality
- Informality relates to incomplete compliance with government taxes and regulations; synonymous terms used include “black, underground and shadow” economy.
- Schneider (2005) definition:
  - The shadow economy includes all market-based legal production of goods and services that are deliberately concealed from public authorities for the following reasons: (1) to avoid payment of income, value added or other taxes, (2) to avoid payment of social security contributions, (3) to avoid having to meet certain legal labor market standards, such as minimum wages, maximum working hours, safety standards, etc., and (4) to avoid complying with certain administrative procedures, such as completing statistical questionnaires or other administrative forms. (Schneider, 2005, pp. 4-5)
- Loayza (1997) definition (based on De Soto, 1989): “...the set of economic units that do not comply with government-imposed taxes and regulations” (pp. 1).
- Cowell (1990) decomposition of the productive underground economy (excluding crime):
  - γ representing informal operations within formal firms;
  - δ capturing informal operations within informal firms.
- Measurement approaches:
  - Aggregate output level (shadow economy as percent of official GDP).
  - Contributions of production factors (labor-focused measures).
  - ICLS/ILO framework for informal employment: Production units vs. jobs matrix with cells A, B, C, D where A and C represent informal workforce; A and B represent informal firms.
- Microeconomic definitions depend on data and scope (examples: Levy (2008), Levy et al. (2012) using salaried vs. non-salaried distinctions).

### Informality: putting Paraguay on the map (cross-country evidence)
- Schneider (2010) estimates shadow economy size for 162 countries, 1999–2007; finding: informal economy (percent of official GDP) in advanced economies is about half that in other parts of the world.
- Regional averages (Average Informality as percent of official GDP, unweighted; Extended from Schneider (2010)):
  - East Asia and Pacific — Mean 32.33, Median 32.5, Min 12.75, Max 51.0, Standard Deviation 13.3
  - Europe and Central Asia — Mean 38.5, Median 35.8, Min 18.2, Max 66.7, Standard Deviation 11.0
  - Latin America and the Caribbean — Mean 41.2, Median 38.7, Min 19.3, Max 66.1, Standard Deviation 12.3
  - Middle East and North Africa — Mean 28.0, Median 32.7, Min 18.2, Max 37.2, Standard Deviation 7.9
  - High Income OECD — Mean 16.8, Median 16.0, Min 8.7, Max 27.9, Standard Deviation 5.6
  - Other High Income — Mean 22.8, Median 25.0, Min 12.4, Max 33.4, Standard Deviation 6.7
  - South Asia — Mean 33.2, Median 35.3, Min 22.2, Max 43.7, Standard Deviation 6.9
  - Sub Saharan Africa — Mean 40.8, Median 40.5, Min 22.6, Max 61.8, Standard Deviation 7.6
  - World — Mean 33.1, Median 33.5, Min 8.7, Max 66.7, Standard Deviation 12.8
  - Paraguay — Mean 38.8, Median 38.8, Min 37.4, Max 40.1, Standard Deviation 1.0
- Cross-study contrasts for Paraguay:
  - Schneider (2010): Paraguay’s informal economy (percent of GDP) coincides with the median of Latin American and Caribbean countries.
  - Vuletin (2008): estimates Paraguay’s informal economy at 68 percent of GDP (ranks Paraguay as largest in region).
  - Censo Economico 2011 (Paraguay): suggests much smaller informal-product share — 8.5 percent of the largest firms (most formal) produce 94 percent of total income.
- Microeconomic employment evidence:
  - ILO (2013) cross-country study (47 developing and emerging economies): Paraguay ranks in the top three of LAC countries with the largest share of employment in the informal economy.
  - ILO (2009 data) for Paraguay: 70.7 percent of non-agricultural employment is located in the informal sector; only Bolivia and Honduras surpass this level in the region; matches levels observed in Zambia and the Philippines.
  - Moody’s Investors Service (2013): using alternative definition, estimates informal sector includes around 60 percent of the employed population (definition: share of the employed population excluding domestic workers that lacks a work contract, using data for 2011).

### Size and measurement of informality in Paraguay (household-survey based)
- Survey and identification:
  - Source: Encuesta Permanente de Hogares, 2013; sample restricted to employed population with income greater than zero (excluding non-remunerated household work).
  - Four trigger conditions identify informal workers:
    - firm size: firm with five or less employees → informal;
    - pension fund participation: not contributing → informal;
    - tax ID: firm lacks tax ID → informal;
    - issuing invoices: firm does not issue invoices/receipts → informal.
- Estimated share of workforce in the informal economy: between 55 percent and 77 percent.
- Cross-country evidence associates larger informal economy with unfavorable attributes: high inequality (Gini), corruption, and weak institutions; Government Effectiveness, Regulatory Quality, and Control of Corruption show statistically significant negative associations with size of informal economy in several specifications.

### Informal vs formal labor: incomes, education, and productivity
- Monthly salaries in the formal sector are usually twice as large as those in the informal sector.
- Formal-sector workforce has, on average, four more years of education than informal workers.
- Mincer equation result: after controlling for education, age, experience, and gender, the average salary of an informal worker is still around 40 percent below that of a formal worker.
- Interpretation: informal sector employment imposes a distinct constraint on income generation, linked to lower productivity and less favorable conditions for growth.

### Distribution by gender, poverty status and sector of activity
- Gender distribution: males and females are similarly distributed between informal and formal sectors (example: firm size criterion — 64 percent of males vs 62 percent of females in informal sector).
- Poverty:
  - Extremely poor workers are almost exclusively in the informal sector: 94 percent (firm size criterion) and 98 percent (pension funds criterion) of extremely poor employed population are informal.
  - Only 6 percent (firm size) and 2 percent (pension funds) of extremely poor employed population work in the formal sector.
- Sectoral concentration of informal workers: mostly in agriculture, construction and commerce; “electricity, gas and water” has the lowest share of informal employment.

### Interaction between formal and informal firms; perceived obstacles (World Bank Enterprise Surveys, Paraguay 2010)
- Perceptions and competitive impact:
  - Almost 30 percent of respondents identify “Practices of Competitors in the Informal Sector” as the biggest obstacle.
  - Around three quarters of formal firms report they compete against unregistered or informal firms.
  - More than 40 percent of formal firms (and more than half of large formal firms) report competition with informal firms as a major or very severe obstacle.
  - Across sectors, manufacturing is most affected: 46 percent of firms declare the informal sector represents a major or very severe obstacle.
  - Only 15 percent of firms report the informal economy represents no problem at all.
- Top operational obstacles (percent of firms): Practices of competitors in informal sector, Inadequately educated workforce, Corruption, among others.

### Econometric evidence on severity of obstacle (ordered probit)
- Ordered probit marginal effects (selected results):
  - Size = Medium (>=20 and <=99): dy/dx for Y1=3 = 0.038*, Y1=4 = 0.092*
  - Size = Large (>=100): dy/dx for Y1=3 = 0.042***, Y1=4 = 0.167**
  - Sector: Services: dy/dx for Y1=3 = 0.043**, Y1=4 = 0.106*
  - Industry: Foods positive; Textiles negative for higher obstacle categories.
- Ordered probit coefficients (Table A2) with p-values:
  - Size = Medium: coef. 0.334, P-value 0.075
  - Size = Large: coef. 0.531, P-value 0.019
  - Sector: Services: coef. 0.385, P-value 0.046
  - Industry = Foods: coef. 0.394, P-value 0.085
  - Industry = Textiles: coef. -0.441, P-value 0.051
  - Legal Status = Sole (proprietorship): coef. 0.665, P-value 0.005

### Theoretical framework: dynamic general equilibrium model of informality
- Model structure:
  - Two-sector production: official (O) and informal/underground (U); firms can operate in both sectors.
  - Taxes on official output at rate tauF; firms may declare fraction xi of true income (0<xi<1).
  - Detection probabilities depend on government effectiveness q (p and o functions).
  - Penalties: s for formal sector evasion; t for informal sector operation. Calibration bounds: minimum = 1 (no penalty), maximum s=1.95 (95 percent penalty rate calibration context).
  - Government effectiveness q increases detection probabilities and is influenced by a combination of autonomous regulatory quality and a share omega of government expenditures.
- Endogenous outcomes: tax evasion (1 - xi), informal labor (1 - mu), informal output yU.
- Calibration: model calibrated to characteristics of a representative South American economy (not specifically to Paraguay).

### Policy tool effectiveness (calibration results)
- Policy tools considered: Ω = [tauF, q, s, t].
- Reported calibrated tables (min, max, and impacts preserved exactly as in source):

  - Table A3. Effectiveness of Policy Tools on Evasion
    - tauF: Min 0.01, Max 0.86; Evasion when policy = Min 0.01; Evasion when policy = Max 0.86; Maximun Impact of Policy 0.011.000.995
    - q: Min 0.12, Max 0.86; Evasion when policy = Min 0.12; Evasion when policy = Max 0.86; Maximun Impact of Policy 0.360.09-0.262
    - s: Min 1.00, Max 1.95; Evasion when policy = Min 1.00; Evasion when policy = Max 1.95; Maximun Impact of Policy 0.220.11-0.111
    - t: Min 1.00, Max 1.95; Evasion when policy = Min 1.00; Evasion when policy = Max 1.95; Maximun Impact of Policy 0.190.19-0.001

  - Table A4. Effectiveness of Policy Tools on the Share of Labor in the Informal Sector
    - tauF: Min 0.01, Max 0.86; Informal Labor when policy = Min 0.01; Informal Labor when policy = Max 0.86; Maximun Impact of Policy 0.370.430.062
    - q: Min 0.12, Max 0.86; Informal Labor when policy = Min 0.12; Informal Labor when policy = Max 0.86; Maximun Impact of Policy 0.460.39-0.068
    - s: Min 1.00, Max 1.95; Informal Labor when policy = Min 1.00; Informal Labor when policy = Max 1.95; Maximun Impact of Policy 0.440.450.010
    - t: Min 1.00, Max 1.95; Informal Labor when policy = Min 1.00; Informal Labor when policy = Max 1.95; Maximun Impact of Policy 0.460.41-0.049

  - Table A5. Effectiveness o Policy Tools on the Share of Output produced by the Informal Sector
    - tauF: Min 0.01, Max 0.81; Informal Output when policy = Min 0.01; Informal Output when policy = Max 0.81; Maximun Impact of Policy 0.370.410.045
    - q: Min 0.12, Max 0.86; Informal Output when policy = Min 0.12; Informal Output when policy = Max 0.86; Maximun Impact of Policy 0.430.38-0.049
    - s: Min 1.00, Max 1.95; Informal Output when policy = Min 1.00; Informal Output when policy = Max 1.95; Maximun Impact of Policy 0.420.430.007
    - t: Min 1.00, Max 1.95; Informal Output when policy = Min 1.00; Informal Output when policy = Max 1.95; Maximun Impact of Policy 0.440.40-0.036

- Calibrated scenario examples:
  - When t = 1 (minimum, 0 percent penalty rate): evasion = 19 percent, informal labor ≈ 46 percent, informal output ≈ 44 percent.
  - When t = 1.95 (maximum, 95 percent penalty rate): evasion = 19 percent, informal labor = 41 percent, informal output = 40 percent.
  - Interpretation: raising penalties on informal activities helps reduce informal output and employment; raising penalties on formal-sector evasion without complementary measures can increase informality by shifting activity outside the register.

### Policy implications and recommendations
- No single instrument suffices; a policy mix matters because instruments differentially affect evasion, informal labor, and informal output.
- Policy elements likely to be instrumental:
  - Improvements in government effectiveness to raise the relative cost of staying informal and increase detection probabilities.
  - Phasing out unnecessarily onerous regulations, including certain licensing and registration requirements that may foster corruption.
  - Suitable structure of penalties for non-compliance, and consideration of positive incentives for formalization (e.g., subsidies for formalizing, reductions in regulatory/tax burdens).
- Caution from model: focusing enforcement primarily on formal firms to punish evasion can induce migration toward informality; complementary incentives for formalization are important.
- Broader policy trade-offs: output, welfare, fiscal sustainability and inequality must be balanced dynamically to achieve efficiency, equity and sustainability.

### Final observations (concluding findings)
- Informality in Paraguay is pervasive and at the high end for the region, posing a significant policy challenge.
- Informality disproportionately affects the most vulnerable (extremely poor and poor), and likely dampens growth through lower productivity.
- Informal firms have low productivity and negatively affect formal firms and workers; medium and large formal firms are particularly likely to face challenges from competition with informal firms.
- Most informal sectors: agriculture, construction and commerce.
- Government effectiveness, statutory variables, regulatory burden, and appropriately designed penalties/incentives are central to reducing informality while balancing efficiency, inequality and fiscal sustainability.

*Source: _wp15245 - Section III compares Paraguay’s economy with other countries using different estimations of the*

### Section III compares Paraguay’s economy with other countries using different estimations of the

### _wp15245 - Section III compares Paraguay’s economy with other countries using different estimations of the

### Defining informality
- Informality relates to incomplete compliance with government taxes and regulations; synonymous terms used include “black, underground and shadow” economy.
- Schneider (2005) definition (quoted in source):
  - The shadow economy includes all market-based legal production of goods and services that are deliberately concealed from public authorities for the following reasons: (1) to avoid payment of income, value added or other taxes, (2) to avoid payment of social security contributions, (3) to avoid having to meet certain legal labor market standards, such as minimum wages, maximum working hours, safety standards, etc., and (4) to avoid complying with certain administrative procedures, such as completing statistical questionnaires or other administrative forms. (Schneider, 2005, pp. 4-5)
- Loayza (1997) definition (based on De Soto, 1989): “...the set of economic units that do not comply with government-imposed taxes and regulations” (pp. 1).
- Cowell (1990) conceptualization partitions the productive underground economy (excluding crime) into:
  - γ representing informal operations within formal firms;
  - δ capturing informal operations within informal firms.
- Informality can be measured at the aggregate output level or via contributions of production factors (labor focus).
- ICLS/ILO conceptual framework for measuring informal employment (Table 1):
  - Production units vs. jobs matrix:
    - Informal enterprises: Informal jobs = A, Formal jobs = B
    - Other units of production: Informal jobs = C, Formal jobs = D
  - Cells A and C represent the informal workforce; cells A and B represent informal firms.
- Microeconomic definitions often depend on data and analysis scope (examples: Levy (2008), Levy et al. (2012) using salaried vs. non-salaried worker distinctions).

### Informality: putting Paraguay on the map
- Schneider (2010) estimates shadow economy size for 162 countries from 1999 to 2007; finding: size of the informal economy (in percent of official GDP) in advanced economies is about half that in other parts of the world.
- Regional averages and Paraguay (Table 2: Average Informality as percent of official GDP, unweighted; source: Extended from Schneider (2010)):
  - East Asia and Pacific — Mean 32.33, Median 32.5, Min 12.75, Max 51.0, Standard Deviation 13.3
  - Europe and Central Asia — Mean 38.5, Median 35.8, Min 18.2, Max 66.7, Standard Deviation 11.0
  - Latin America and the Caribbean — Mean 41.2, Median 38.7, Min 19.3, Max 66.1, Standard Deviation 12.3
  - Middle East and North Africa — Mean 28.0, Median 32.7, Min 18.2, Max 37.2, Standard Deviation 7.9
  - High Income OECD — Mean 16.8, Median 16.0, Min 8.7, Max 27.9, Standard Deviation 5.6
  - Other High Income — Mean 22.8, Median 25.0, Min 12.4, Max 33.4, Standard Deviation 6.7
  - South Asia — Mean 33.2, Median 35.3, Min 22.2, Max 43.7, Standard Deviation 6.9
  - Sub Saharan Africa — Mean 40.8, Median 40.5, Min 22.6, Max 61.8, Standard Deviation 7.6
  - World — Mean 33.1, Median 33.5, Min 8.7, Max 66.7, Standard Deviation 12.8
  - Paraguay — Mean 38.8, Median 38.8, Min 37.4, Max 40.1, Standard Deviation 1.0
- Key cross-study contrasts for Paraguay:
  - Schneider (2010): Paraguay’s size of the informal economy (percent of GDP) coincides with the median of Latin American and Caribbean countries.
  - Vuletin (2008): estimates Paraguay’s informal economy at 68 percent of GDP (ranks Paraguay as largest in region).
  - Censo Economico 2011 (Paraguay): suggests much smaller informal-product share — 8.5 percent of the largest firms (most formal) produce 94 percent of total income.
- Microeconomic employment evidence:
  - ILO (2013) cross-country study (47 developing and emerging economies): Paraguay ranks in the top three of LAC countries with the largest share of employment in the informal economy.
  - ILO (2009 data) for Paraguay: 70.7 percent of non-agricultural employment is located in the informal sector; this level is only surpassed in the region by Bolivia and Honduras, and matches levels observed in Zambia and the Philippines.
  - Moody’s Investors Service (2013): using an alternative definition, estimates informal sector includes around 60 percent of the employed population (definition: share of the employed population excluding domestic workers that lacks a work contract, using data for 2011).

### Linkages with growth, inequality, and institutions
- Cross-country associations (bivariate graphics and panel regressions described):
  - Higher levels of informality are usually associated with:
    - lower levels of GDP per capita (in purchasing power parity terms) — relationship becomes inconclusive when controlling for time trends;
    - higher levels of inequality (measured by the Gini coefficient, where 100 implies maximum inequality);
    - lower efficiency of economic institutions, as captured by Regulatory Quality, Control of Corruption, and Government Effectiveness (World Bank’s Worldwide Governance Indicators).
  - The unconditional association between economic growth and informality is unclear.
- Panel regression results (summary of methodological points and findings):
  - Several panel data regressions with country-specific fixed effects and country/time fixed effects were run (results in Appendix Table A1).
  - First group of regressions (columns 1–6) include each explanatory variable one at a time with country-fixed effects; GDP per capita shows large explanatory power (high R-squared).
  - Second group (columns 7–12) adds time-fixed effects; coefficient on GDP per capita falls to two-thirds of its original size, suggesting time trends may drive part of the GDP per capita association.
  - Third group (columns 13–15) includes GDP per capita, Gini, and growth, plus one institutional variable at a time with country-fixed effects.
  - Fourth group (columns 16–18) mirrors third group but adds time-fixed effects.
  - Preferred specifications: columns 16 and 18.
    - In those specifications the association between size of the informal economy and level of income is inconclusive.
    - All other variables (inequality, corruption/control of corruption, regulatory quality/government effectiveness) are statistically significant and have the expected signs.
- Conclusion from empirical associations:
  - A large informal sector is associated negatively with growth and sound economic institutions, and positively with inequality.
  - Results reflect statistical associations and may not have a causal interpretation.
- Context for Paraguay:
  - The levels of the six economic indicators included in the analysis are lower for Paraguay than the regional mean; hence a large degree of informality is not surprising given the cross-country associations.

*Source: _wp15245 - Section III compares Paraguay’s economy with other countries using different estimations of the*

### section illustrates and confirms that informality is an important phenomenon for Paraguay’s

### _wp15245 - section illustrates and confirms that informality is an important phenomenon for Paraguay’s

### Size and measurement of informality in Paraguay
- Using the household survey “Encuesta Permanente de Hogares, 2013” and restricting to employed population with income greater than zero (excluding non-remunerated household work), four trigger conditions identify informal workers:
  - firm size: firm with five or less employees → informal;
  - pension fund participation: not contributing → informal;
  - tax ID: firm lacks tax ID → informal;
  - issuing invoices: firm does not issue invoices/receipts → informal.
- Estimated share of workforce in the informal economy: between 55 percent and 77 percent.
- Cross-country evidence (Figure 4 and Table A1) associates a larger informal economy with unfavorable attributes such as high inequality (Gini), corruption, and weak institutions; institutional measures (Government Effectiveness, Regulatory Quality, Control of Corruption) show statistically significant negative associations with the size of the informal economy in several specifications.

### Informal vs formal labor: incomes, education, and productivity
- Monthly salaries in the formal sector are usually twice as large as those in the informal sector.
- The workforce in the formal sector has, on average, four more years of education than informal workers.
- Mincer equation result: after controlling for education, age, experience, and gender, the average salary of an informal worker is still around 40 percent below that of a formal worker.
- Interpretation: informal sector employment imposes a distinct constraint on income generation, perhaps related to lower productivity and less favorable conditions for growth.

### Distribution by gender, poverty status and sector of activity
- Gender: males and females are similarly distributed between informal and formal sectors (example: firm size criterion — 64 percent of males vs 62 percent of females in informal sector).
- Poverty:
  - Extremely poor workers are almost exclusively in the informal sector: 94 percent (firm size criterion) and 98 percent (pension funds criterion) of extremely poor employed population are informal.
  - Only 6 percent (firm size) and 2 percent (pension funds) of extremely poor employed population work in the formal sector.
- Sectoral concentration of informal workers: mostly in agriculture, construction and commerce; “electricity, gas and water” has the lowest share of informal employment.

### Interaction between formal and informal firms; perceived obstacles
- World Bank Enterprise Surveys (Paraguay, 2010) findings:
  - Almost 30 percent of respondents identify “Practices of Competitors in the Informal Sector” as the biggest obstacle to their operations (Figure 8).
  - Around three quarters of formal firms report they compete against unregistered or informal firms (Figure 9).
  - More than 40 percent of formal firms (and more than half of large formal firms) report competition with informal firms as a major or very severe obstacle (Figure 10).
  - Across sectors, manufacturing is most affected: 46 percent of firms declare the informal sector represents a major or very severe obstacle.
  - Only 15 percent of firms report the informal economy represents no problem at all.
- Main obstacles affecting operations reported by firms (percent of firms, Figure 8 top items): Practices of competitors in informal sector, Inadequately educated workforce, Corruption, among others.

### Econometric evidence on severity of obstacle (ordered probit)
- Ordered probit marginal effects (Table 3) and coefficients (Table A2) indicate:
  - Size = Medium (>=20 and <=99): positive association with higher probability of reporting Major/Very Severe Obstacle (dy/dx for Y1=3 = 0.038*; Y1=4 = 0.092*).
  - Size = Large (>=100): stronger positive association (dy/dx for Y1=3 = 0.042***; Y1=4 = 0.167**).
  - Sector: Services shows increased probability of higher obstacle severity (dy/dx for Y1=3 = 0.043**; Y1=4 = 0.106*).
  - Industry: Foods positive association; Textiles negative association for higher obstacle categories in marginal effects.
- Ordered probit coefficients (Table A2) with p-values:
  - Size = Medium: coef. 0.334, P-value 0.075
  - Size = Large: coef. 0.531, P-value 0.019
  - Sector: Services: coef. 0.385, P-value 0.046
  - Industry = Foods: coef. 0.394, P-value 0.085
  - Industry = Textiles: coef. -0.441, P-value 0.051
  - Legal Status = Sole (proprietorship): coef. 0.665, P-value 0.005

### Theoretical framework: dynamic general equilibrium model of informality
- Model features:
  - Two-sector production: official (O) and informal/underground (U); firms can operate in both.
  - Taxes on official output at rate tauF; firms may declare fraction xi of true income (0<xi<1).
  - Detection probabilities depend on government effectiveness q (p and o functions).
  - Penalties: s for formal sector evasion; t for informal sector operation. Values of s and t in calibration: minimum = 1 (no penalty), maximum s=1.95 (95 percent penalty rate calibration context).
  - Government effectiveness q increases detection probabilities and is influenced by a combination of autonomous regulatory quality and a share omega of government expenditures.
- Endogenous outcomes in model: tax evasion (1 - xi), informal labor (1 - mu), and informal output yU.
- Calibration: model calibrated to characteristics of a representative South American economy (not specifically to Paraguay).

### Policy tool effectiveness (model calibration results)
- Policy tools considered: Ω = [tauF, q, s, t].
- Tables A3–A5 report min, max, and impacts (numbers preserved exactly as in source):

  - Table A3. Effectiveness of Policy Tools on Evasion
    - tauF: Min 0.01, Max 0.86; Evasion when policy = Min 0.01; Evasion when policy = Max 0.86; Maximun Impact of Policy 0.011.000.995
    - q: Min 0.12, Max 0.86; Evasion when policy = Min 0.12; Evasion when policy = Max 0.86; Maximun Impact of Policy 0.360.09-0.262
    - s: Min 1.00, Max 1.95; Evasion when policy = Min 1.00; Evasion when policy = Max 1.95; Maximun Impact of Policy 0.220.11-0.111
    - t: Min 1.00, Max 1.95; Evasion when policy = Min 1.00; Evasion when policy = Max 1.95; Maximun Impact of Policy 0.190.19-0.001

  - Table A4. Effectiveness of Policy Tools on the Share of Labor in the Informal Sector
    - tauF: Min 0.01, Max 0.86; Informal Labor when policy = Min 0.01; Informal Labor when policy = Max 0.86; Maximun Impact of Policy 0.370.430.062
    - q: Min 0.12, Max 0.86; Informal Labor when policy = Min 0.12; Informal Labor when policy = Max 0.86; Maximun Impact of Policy 0.460.39-0.068
    - s: Min 1.00, Max 1.95; Informal Labor when policy = Min 1.00; Informal Labor when policy = Max 1.95; Maximun Impact of Policy 0.440.450.010
    - t: Min 1.00, Max 1.95; Informal Labor when policy = Min 1.00; Informal Labor when policy = Max 1.95; Maximun Impact of Policy 0.460.41-0.049

  - Table A5. Effectiveness o Policy Tools on the Share of Output produced by the Informal Sector
    - tauF: Min 0.01, Max 0.81; Informal Output when policy = Min 0.01; Informal Output when policy = Max 0.81; Maximun Impact of Policy 0.370.410.045
    - q: Min 0.12, Max 0.86; Informal Output when policy = Min 0.12; Informal Output when policy = Max 0.86; Maximun Impact of Policy 0.430.38-0.049
    - s: Min 1.00, Max 1.95; Informal Output when policy = Min 1.00; Informal Output when policy = Max 1.95; Maximun Impact of Policy 0.420.430.007
    - t: Min 1.00, Max 1.95; Informal Output when policy = Min 1.00; Informal Output when policy = Max 1.95; Maximun Impact of Policy 0.440.40-0.036

- Key calibrated scenario example (from text):
  - When penalties on informal sector operations [t] equal the minimum (t=1 or a 0 percent penalty rate), evasion = 19 percent, informal labor ≈ 46 percent, informal output ≈ 44 percent.
  - When penalty [t] at maximum (t=1.95 or a 95 percent penalty rate), evasion = 19 percent, informal labor = 41 percent, informal output = 40 percent.
  - Interpretation: raising penalties on informal activities helps discourage informal output and employment; higher penalties on formal sector tax evasion can increase informality if enforcement focuses on registered firms.

### Policy implications and recommendations
- Model and empirical evidence imply no single policy instrument is sufficient; policy mix matters because instruments have different effects on evasion and informality.
- Policy elements likely to be instrumental:
  - Improvements in government effectiveness, which raises the relative cost of staying outside the formal sector and increases detection probabilities.
  - Phasing out unnecessarily onerous regulations, including certain licensing and registration requirements that may be a source of corruption.
  - Suitable structure of penalties for non-compliance; consideration could also be given to providing positive incentives for formalization (e.g., subsidies for formalizing, reduction of regulatory/tax burdens).
- Caution from model: focusing enforcement primarily on formal firms to punish evasion can induce migration toward informality; complementary measures to incentivize formalization are important.
- Broader considerations for policy choice: output, welfare, fiscal sustainability and inequality — a dynamically consistent balance between efficiency, inequality and sustainability is necessary.

### Final observations (concluding findings)
- Informality in Paraguay is pervasive and at the high end for the region, posing a significant policy challenge.
- Informality disproportionately affects the most vulnerable (extremely poor and poor), and likely dampens growth through lower productivity.
- Informal firms not only have low productivity but also negatively affect formal firms and workers; medium and large formal firms are particularly likely to face challenges from competition with informal firms.
- Most informal sectors: agriculture, construction and commerce.
- Government effectiveness, statutory variables, regulatory burden, and appropriately designed penalties/incentives are central to reducing informality while balancing efficiency, inequality and fiscal sustainability.

*Source: _wp15245 - section illustrates and confirms that informality is an important phenomenon for Paraguay’s*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/wp/2015/_wp15245.pdf_