Revisiting the Informal Sector: A General Equilibrium Approach

During the last 50 years with unprecedented population growth and urbanization, economic development, particularly in developing countries failed to generate adequate employment and income opportunities in the modern sector, compelling the surplus labour force to generate its own means of employment and survival in the informal sector. The main characteristics of the informal sector are easy entry for the new enterprises, reliance on indigenous resources, family ownership of enterprises, small scale of operations and low productivity, labour-intensive and adapted technology, reliance of workers on informal sources of education and skills, unregulated and competitive markets and lack of governmental support. The earlier contention that the informal sector epitomizes the ‘residual’ sector or a sector of last resort has been belied by a plethora of evidences indicating its dynamic character and its instrumental role in ameliorating unemployment and propelling the developing economies towards growth and prosperity. This conceptual metamorphosis regarding the informal sector has stimulated revived interest in the phenomenon among development economists, with quite a few books dealing with the sector analytically or empirically. However, the theoretical analysis of the different aspects of the sector is equally important, especially for formulation of appropriate policy prescriptions. Comparative static results, in many cases, diverge from the conventional wisdom. We noticed that although various authors have published theoretical papers in different journals, there are very few books that try to understand the informal sector in a theoretical framework. This lacuna inculcated in us an interest to write this book. It is mainly targeted towards postgraduate students of development economics with interest in the informal sector and researchers who are pursuing theoretical research on informal sector. In this book we endeavour to give an insight into the diverse aspects of the ‘multidimensional’ informal sector, its role in the context of unemployment, child labour, globalisation, environment, etc. and its multi-faceted interaction with the other sectors of the economy. Most importantly, we give an outline of the earlier doctrines, elucidate on the newer ones and critically review the contradictions within them to trace the nature and direction of desirable policy parameters that may be relevant in the present scenario. We have stylized the informal sector within different established general equilibrium frameworks. We have incorporated the informal sector in the traditional Heckscher-Ohlin model; considered the dualistic approach within the Harris-Todaro framework and also embraced the theories of dependency and/or underdevelopment where the focus shifts from marginalization to the structural linkages that exist between the informal and formal sectors in the form of subcontracting. We have considered situations, albeit in different models, where the informal sector produces internationally traded final commodity, non-traded final commodity, and traded and non-traded intermediate goods. Thus, although not exhaustive, we have tried to deal with most of the dimensions of the sector.