Informality, productivity, and enforcement in West Africa: A firm level analysis

1. Informality, productivity, and enforcement in West Africa: A firm level analysis Nancy C. Benjamin (World Bank) and Ahmadou Aly MBAYE (University Cheikh Anta Diop of Dakar) June 6, 2010 Enforcement Evasion and informality: Theory and Practice An International Conference in Honor of Katherine Terrell

2. The informal sector in West African economies: scope and major characteristics • Informal sector accounts for 48 percent of non-agricultural employment in northern Africa, 51 percent in Latin America, 65 percent in Asia, and 72 percent in Sub-Saharan Africa (ILO) • Chen (2001) estimates that 93 percent of new jobs created in African during the 1990s were created by the informal sector • Steel and Snodgrass (2008) report that the informal economy accounts for 50 to 80 percent of GDP in Africa and as much as 90 percent of employment. • In Burkina Faso, 80 percent of total employment is attributed to the informal sector (Calves and Schoumaker 2004).

3. Share of informal businesses in value added of the secondary sector Sénégal Burkina faso

4. Share of informal businesses in value added of the secondary sector Bénin

5. Informality as a continuum • Benjamin et Mbaye (Senegal, Benin, Burkina Faso) define 6 levels of informality based on five criteria: • Firm Size • Registration • Honest and transparent accounts • The existence of a fixed location • Access to bank credit

6. Figure 1: informality as a continuum : the six different levels of formality Figure 2 : Share of firms failing to meet various criteria of formality

8. The importance of big informal firms in West Africa • Documented by Benjamin et Mbaye (2009) • Powerful and rich businessmen operate informally in full knowledge of the authorities. • Their existence is a testimony to the weakness of the state in enforcing its rules. • A few examples from Senegal: Moustapha Tall (controls 36% of the rice market), Serigne Mboup (turnover estimated at $600 million).

9. Large informal businesses in West Africa • Their major characteristics • An accounting system based on fake accounts • Odd organizational structure • High mortality rate of firms • Some famous cases • Khadim BOUSSO • Cheikh Tall Dioum and NBA • Moustapha Tall • Bocar Samba Dieye • The NANA Benz in Togo • The big wholesalers and retailers in the Dantokpa Market (Benin)

10. Comparisons of Imports to Reported Turnover Source: Benjamin et Mbaye (2009)

11. Business Networks • In Africa, ethnic and religious networks often provide a shadow institutional framework substituting for the state, linking informal operators. • Networks provide credit, market information, dispute resolution, safety net. • Networks are powerful and are both cause and effect of weakness of official institutional mechanisms. • Sometimes cross-border in nature.

12. State Failures underly the cost/benefit choice facing firms • Loayza (1996) the magnitude of the tax pressures, labor market restrictions (controlling for GDP per capita). • Friedman et al. (2000) corruption and bureaucracy • Azuma et Grossman (2002) the predatory state which splits the spoils between the ruling elite. • Perry et al. (2007) perceptions of the honesty and competence of public officials. • World Bank (2009) a malfunctioning state undermines “tax morale”.

13. The Informal Sector and the Institutional Environment • Connection between big informal actors and the Mouride brotherhood • High perception of poor use of tax revenue • Minimizing risk of being exposed to fiscal harassment • High perception of poor enforcement capabilities • High perception of the level of costs associated with a reliable accounting system • High perception of the level of taxation • Difficulties linked to tax collection

14. Figure 5:Do you think the government is using tax revenue rightly? Fiugre 6: Level of confidence in the good use of public resources

15. Figure 7: Do you think tax payment exposes you to fiscal harassment?

16. Level of enforcement Figure 8: Rules governing social protection Figure 9: Honest tax filing

17. Level of enforcement Figure 10: Sincerity of accounts

18. Productivity Differences Between Formal and Informal Firms

20. Dependent variable: the log of labor productivity

21. Dependent variable: the log of labor productivity

22. CART Cotonou

23. Conclusions • The World Bank (2009) Latin American study emphasizes that the informal sector must be viewed as a systemic problem of state failure. This is even more true in Africa than in Latin America. • In Africa, the informal sector is not dominated by independent microentreprises. It includes large players and organized networks. • In Africa, the informal sector transcends national borders.

24. Questions • Why are there large informal firms? • Why do countries adopt regulations they don’t enforce? • Why are African governments seldom equipped to address the business climate as a whole?

25. Recommendations: • Policy recommendations are likely to differ between large and small informal enterprises. • For the large informal firms with a genuine choice, policy should be oriented toward a more systematically enforced, and enforceable regulatory regime. Governments should systematically test regulations for their social-benefit content, and explicitly consider the cost of compliance for firms and the requirements of systematic enforcement for government, along with the cost to credibility of irregular enforcement.

26. Recommendations: • In order to reach national growth targets, governments cannot rely on the growth contributions of informal businesses, and policy will need to cultivate foreign investment in businesses that are internationally competitive and serve a growing international demand. • Policy lessons drawn from work on ways to improve governance should be applied, especially those focused on obligating governments to deliver on a substantive agenda, increasing transparency on whether they have so delivered, and increasing public information on what governments are supposed to deliver.

27. Recommendations: • Improving the coordination among the diverse registration and tax authorities and greater enforcement of single taxpayer ID systems, especially between customs and tax offices, would help to improve the investment climate and reduce the governance issues giving rise to the large informal sector. • Business and government should collaborate on an agreement to improve both the business environment and the tax base, in recognition that each side can take actions that will improve the circumstances of the other.

28. Recommendations: Encouraging Transition of Larger and More Productive Firms to the Formal Sector • Induce larger and more productive firms to transition to formal status by altering the cost/benefit calculus in favor of informality. • Carrots: Improving the business climate, including infrastructure, the fairness of taxation, the quality of business services, the simplicity of regulation, lowering corruption etc. • Sticks: Sanctioning firms that escape their tax and regulatory obligations

29. Recommendations: Assisting Weaker Firms • For smaller and less productive firms, full transition from informality is not feasible (Gelb et al 2009). These firms have an important role in employment creation. • Develop appropriate forms of taxation and regulation that do not undermine the viability of these firms. • Improve access to education, training and other business services to raise productivity.