Bringing the Informal Sector into the Fold

IMF Blog, November 16, 2011

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Unemployment rates in the Middle East and North Africa have remained above 10 percent over the past decade, the highest in the world.
Youth unemployment in the region is a persistent 25 percent: one in four of the region’s young people are without work.
Many jobseekers who cannot find jobs in the formal economy are relegated to working in the informal sector, for lower wages and without the protections and opportunities enjoyed in the formal economy.
The informal economy is large and pervasive in the region and received heightened public attention after the self-immolation of Tunisian street vendor Mohamed Bouazizi in December last year, which helped spark the Arab Spring protests.

In Morocco, the informal economy is estimated at 44 percent of officially measured GDP.
In most other oil-importing countries in the Middle East and North Africa, the informal economy is estimated at close to one-third.
Labor market regulations in Egypt, Lebanon, Morocco, and Syria are often more restrictive than in other regions, contributing to the high cost of employment in the formal sector.
High firing costs in Egypt impede the expansion of formal employment; firms may operate entirely informally or hire informally to avoid these costs.

Burdensome red tape, excessive taxes, and weak governance create a difficult business environment that encourages informality.
Weak institutions and governance limit access to public services and the benefits of formal operation to a privileged, well-connected few, foster corruption, and erode trust in public institutions.
Overly restrictive product market regulations and high tax burdens raise compliance and entry costs, creating strong incentives for firms to avoid formalization—either by operating informally, paying bribes for services, or evading enforcement.

Workers in the informal sector often operate without labor protections, social benefits, or prospects for career advancement.
Over time, informal employment can lead to skill diminishment because workers do not use or develop skills to their full potential and lack access to training.
Governments lose an important source of tax revenue from a large informal sector.
Lack of access to well-paying and productive jobs—particularly for young labor-force entrants—translates into lost opportunities and is a source of societal tension.
The presence of a large informal sector can be a red flag that a country’s growth is not inclusive enough.

Reduce the costs and burdens of entering the formal economy to improve access to economic opportunities and achieve more inclusive growth.
Reform labor regulations to make it less expensive for employers to hire workers formally.
Simplify rules for establishing and operating a business to encourage entrepreneurs to start businesses formally, and enforce rules fairly and consistently so firms share both responsibilities and benefits of formalization.
Simplify tax regulations and strengthen tax administration to complement broader reforms.
Provide support for workers in the informal sector to acquire skills demanded by the formal sector.

Masood Ahmed, Bringing the Informal Sector into the Fold, November 16, 2011.