Informality and Regulations: What Drives Firm Growth?

IMF Working Papers, May 1, 2007

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Informality and Regulations: What Drives Firm Growth?

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Bibliographic details

• Authors: Era Dabla-Norris, Gabriela Inchauste
• Published: May 1, 2007
• Series: IMF Working Papers
• DOI: https://doi.org/10.5089/9781451866766.001

Summary findings

• The paper relies on a rich firm-level data set on transition economies to examine the role of informality as an important channel through which regulatory and other policy constraints affect firm growth.
• Firms reduce their formal operations with a higher tax and regulatory burden, but increase formal operations with better enforcement quality.
• Growth in formal firms is negatively affected by both tax and financing constraints, while these constraints are insignificant for growth in informal firms.
• Formal firm growth improves with better enforcement as measured by fair and impartial courts.
• Informal firm growth is constrained by organized crime, pointing to informal firms' inability to take full advantage of the legal and judicial systems.
• At the country-wide level, higher regulatory burden reduces firm growth.
• An interactive term between a country-wide measure of the rule of law and a proxy for formality suggests that better enforcement quality dampens the relatively weaker growth in formal firms.

Firm-level impacts and mechanisms

• Regulatory and tax burden:
  • Higher tax and regulatory burden → firms reduce formal operations.
  • Higher tax and regulatory burden → negative effect on growth of formal firms.
  • For informal firms, tax and financing constraints are reported as insignificant for growth.
• Enforcement quality:
  • Better enforcement quality → firms increase formal operations.
  • Fair and impartial courts → positive effect on formal firm growth.
  • Organized crime → constrains informal firm growth.
• Financing constraints:
  • Identified as negatively affecting growth of formal firms; insignificant for informal firms.

Country-wide institutions and interactions

• Higher regulatory burden at the country level reduces firm growth.
• Interaction: a country-wide measure of the rule of law interacted with a proxy for formality indicates better enforcement quality dampens the relatively weaker growth observed in formal firms.

Content in this bundle

• Appendix I. Countries in the Sample
  • Appendix I. Countries in the Sample (Markdown version)
  • Appendix I. Countries in the Sample (PDF)