CHAPTER - 2

URBAN INFORMAL SECTOR – CONCEPTUAL OVERVIEW

2.0. Introduction

The world urban population and labour force (defined as the 'economically active

population' or persons employed plus those seeking employment) have been growing at

very high rates for quite some time now (Cherunilam, 1981)1 . Long term United Nation

(UN) projections estimate that the world's population will grow from 5.7 billion in 1997

to probably stabilise at a level between 9.3 and 10 billion between 2150 and 2200

[United Nations 1999]2 . The UN long term projections estimate that most of the

population growth will occur in urban areas, which are expected to grow from 2.5 billion

to more than 6 billion, with nearly all of this increase occurring in the developing world.

To put it differently, by 2020, the world's population will reach a 57 per cent

urbanisation level, of which almost 80 per cent of the urban increase in the next two

decades will occur in developing countries3 . Therefore, within such a short period of

time as two-and-a- half centuries, relative to nearly five-and- a-half millennia after the

development of the first true cities, the population will have changed from a

predominantly rural situation to a predominantly urban one.

One of the distinctive features of urbanisation in developing countries has been

the emergence of a large number of very large cities across all developing regions. Most

of the growth in large cities in the world is projected to take place in developing

1
Cherunilam, F., “The Urban Informal Sector” Indian Journal of Industrial Relations”, Shri Ram, Centre
of IR and HR, Vol. 17 (1), 1981, pp.99-109.
2
United Nations , “World Population Prospects”, United Nations Population Division: Geneva, 1999,
p. 56.
3
Mohanty, L.N.P. and Mohanty, S., “Slum in India”, New Delhi, APH Publishing, 2005, p.16.
36
countries (Hugo, 2003)4 . A strongly held view about urbanisation in developing

countries is that current city- size distributions are too primate - that is, that their urban

populations are too concentrated in a few large cities. The increase in urban population is

characterized by reclassification of previously rural population centres as urban and net

migration from rural to urban areas are the other major reasons. In some contexts, a net

gain of migrants from other countries could also be important (Bhattacharya, 2002)5 . The

relative contribution of each component varies by place and, for any given location, over

time. In countries that are already highly urbanised, natural growth rate of urban

population is more important, since even if rural outmigration rates are high there are

relatively few rural residents to migrate (Annez and Buckley, 2006)6 .

2.1. Rise of Informal Sector

Migration is a disequilibrium phenomenon and workers migrate between sectors

until expected incomes are equal, at which point equilibrium is established 7 . Further,

labour migration is considered a two-stage process with the typical migrant viewed as

arriving in the urban area and joining initially "a large pool of unemployed and under-

employed workers in the urban traditional" or informal sector. The second stage is

reached when the migrant obtains a more permanent job in the urban modern sector

(ILO, 1977)8 .

4
Hugo, G., “Urbanisation in Asia: An Overview”, Conference on African Migration in Comparative
Perspective: Johannesberg, South Africa, 2003, p.1-5.
5
Bhattacharya, P.C., “Urbanization in Developing Countries” , Economic and Political Weekly, Vol. 37
(41), 2002, pp. 4219-4223.
6
Annez, P.C. and Buckley, R.M., “Urbanization and Growth: Setting the Context”, Lawrence Edu: US,
2006, p.6-9.
7
Papola, T.S., “Informal Sector – Concept and Policy”, Economic and Political Weekly, Vol. 15 (18),
1981, pp. 817-824.
8
ILO: "Employment Problems in the Rural and Informal Sectors in Ghana", Report of an ILO/ JASPA
Mission, Addis Ababa, 1977, pp, 21-23.
37
2.2. Dualistic Approaches of Urban Informal Sector

In recent years, many analysts of urban employment in the Third World have

adopted a 'two-sector' terminology and mode of analysis. This approach was initiated by

divisions of economic activities into ' traditional ' and modern sectors, viewing

traditional activities as those which existed before, and continue in the face of, Western

capitalist penetration, and viewing modern activities as those which result directly from

foreign influence and investment, the application of advanced technologies, and the

advent of sophisticated professional and governmental activities (Papola, 1979)9 . The

dualist two sector approach was modified and re-named in the early 1970s, with the

presentation of Hart's (1973)10 influential paper on urban employment in Ghana, dividing

the economy into ' informal ' (analogous to traditional), and ' formal ' (analogous to

modern) sectors, and emphasizing the significance of small-scale indigenous enterprise

and the degree of statistical under-recording in the informal sector (Sethuraman, 1976)11 .

The formal/informal dualism was reinforced in the International Labour Office's World

Employment Programme report on Kenya (Bromley, 1977)12 . Since then it has become a

centre stage in policy discussion regarding unemployment and poverty alleviation.

Though economists are still not able to give an authentic and unanimous definition of the

informal sector, it is commonly known as the non-regulated sector of the economy

(Sargana, 1994)13 . The conceptualization of informal sector, however, is a highly debated

question. Various classifications have been used to analyse the urban economies such as
9
Papola, T. S. “Informal Sector in an Urban Economy: A Study in Ahmedabad", GIDS, Lucknow, 1979,
p. 24.
10
Hart, K. Informal Income Opportunities and Urban Employment in Ghana. Journal of Modern African
Studies, 2 (1): 1973, pp. 61-89.
11
Sethuraman, S.V., “The Urban Informal Sector: Concept, Measurement and Policy”, International
Labour Review, July-August 1976, pp. 72.
12
Bromley, R. “The Urban Informal Sector in the Third World”, The Royal Geographical Society, Area,
Vol. 9 (3), 1977, pp. 198-199.
13
Sargana, M.A., “The Urban Informal Sector in an Adjusting Economy: The case of Pakistan”, The
Pakistan Development Review, Vol. 37 (4), p. 37.
38
organised and unorganised, modern and traditional, capitalist and subsistence, large and

small, and more recently, formal and informal sector (Papola, 1981) 14 . All these

dichotomies stress the discontinuities in urban economic organisations and are utilised to

analyse distinguishing characteristics of the two sectors quite often with a view to

highlighting the policies for growth of one sector in contrast with the other. It is,

however, argued that there may be a continuum of production activities and the division

of urban economy into two parts is arbitrary. Compartmentalization of the two sectors

would raise numerous inconsistencies and complexities in the absence of any precise

definition of informal sector (Mazumdar, 1975)15 .

Dichotomisation of urban economic activities into formal and non formal sectors

is justified only when several dividing lines between large and small-scale, high and low

productivity, foreign and indigenous, high and low wage rate more or less coincide and

when they mark some discontinuity which does not have to be arbitrarily drawn across a

continuum. Indeed, the informal sector industries might be in the process of transition

and with time graduate to the, other sector, thus, leading to the disappearance of

discontinuities. The dichotomisation of the two urban sectors has also been questioned

on the ground that the researchers try to fit the empirical information into arbitrarily

fixed categories and characteristics, which is unreliable as it ignores the relation between

the sub-sectors which may be most crucial in determining the functioning of the urban

economy as a whole (Gerry 1976)16 .

14
Pappola, 1981, Op Cit, p. 21.
15
Dinak Mazumdar, 'Notes on the Informal Sector' in Subbiah Kanappan , (ed) op cit, and Dipak
Mazumdar, "The Urban Informal Sector", World Bank Staff Working Paper No. 211, Washington, 1975,
p. 58.
16
Chris Gerry, "Petty Producers and Urban Economy: A Case Study of Dakar" , Geneva, ILO, (Memo),
1976, p. 214.
39
All these dichotomous demarcations emphasize the discontinuities in urban

economic organizations and are utilized to analyse the distinguishing characteristics of

the two sectors, quite often with a view to highlight policies for the growth of one sector

in contrast to the other. The segmentation of the two sub-systems has generally been

based upon such factors as mode of production, mode of organization and scale of

activities17 .

Lewis (1954) classifies the economy into two sectors, the capitalist sector which

uses reproducible capital and the subsistence sector where marginal productivity of

labour is negligible.18 Reynolds (1968) characterise this dualism in terms of traditional

and modern sectors, the dominating feature of the former being trade and service, and of

the latter, industrialization. While discussing the problem of urban imbalance, Weeks

(1973)19 observes that a large part of the growing labour-force is being absorbed by the

‘unremunerated’ sector consisting of small-scale self-employed activities, as against the

‘enumerated’ sector which consists of organized activities20 . Another approach divides

the economy in terms of the urban workers into ‘protected’ and ‘unprotected’ sectors.

The informal sector workers are unprotected, where entry is free and wages are very low

as compared to the formal sector. Mazumdar (1976)21 has also segmented the labour-

market into protected and unprotected workers. The focus of much of the recent work

has been on laws and regulations in making a distinction between the two sectors. The

informal sector enterprises are those that do not comply with the laws and rules of the

17
Emmerij, L., "A New Look at Some Strategies for Increasing Productive Employment in Africa" ,
International Labour Review, Vol. 1, 2005, pp. 1-9.
18
Lewis, A. Economic Development with Unlimited Supplies of Labour. Mancheste r School of Economics
and Social Studies, 22: 1954, pp.139-191.
19
Weeks, J. Does Employment Matter? In Jolly, R., de Kadt, E., Singer, H. and Wilson, F. (eds.) Third
World Employment. Penguin, 1973, p.21
20
Papola,. 1981, Op Cit, p. 3.
21
Mazumdar, D., The Urban Informal Sector, World Development, 4 (8): 1976, pp.655-679.
40
country (Bromley, 1977)22 . Various researchers have also expressed similar views with

regard to activities of the informal sector which do not operate within the purview of

laws and regulations. This approach has helped focus attention on an important set of

problems constraining the growth of small enterprises, but hinders empirical research,

since it is difficult to classify a particular enterprise as formal or informal, without

conducting an interview, covering questions that are generally quite sensitive for the

respondent.

Lipton (1981)23 makes a distinction between the informal and formal sectors

saying that what matters about the informal sector is not simply that it is easy to enter,

unregulated, small scale, competitive, and labour-intensive, which is all true, but more

important that is easy to shift labour, funds, equipment, materials and space from one use

to another, even from market-production to raising children and housing repair or

expansion24 . Formal sector enterprises have greater capital accumulation, more

technological change, and economies of scale, but these very traits make for rigidities

which have adverse effects at times of unexpected economic change. This sector has also

been classified in terms of discontinuities in size and scale, technological level, earnings

level, etc., and is referred to as a sector belonging to a separate class going by its

characteristics. Sethuraman (1976)25 , while drawing a distinction between formal and

informal sectors, observes that the term, informal sector is used for lack of a better

alternative, though it has no specific analytical meaning in itself (Sethuraman 1976). It

22
Bromley, R. “The Urban Informal Sector in the Third World”, the Royal Geographical Society, Area,
Vol. 9 (3), 1977, pp. 198-199.
23
Lipton, M., “Family, Fungibility, and Formality: Rural Advantages of Informal Non-farm Enterprise
versus the Urban-formal state”, In S. Amin (ed.) Human Resources, Employment, and Development,
Volume-5, Developing Countries, Macmillan, London, 1980, p. 25.
24
Azam, J.P., “Poverty and growth in the WAEMU after the 1994 Devaluation”, Research Paper No.
2004/19, United Nations University, WIDER, France, 2004, p.4.
25
Ibid, Sethuraman, S.V., 1976, p. 73.
41
is, however, argued that there may be a continuum of production activities and the

division of urban economy into two segments is arbitrary. Compartmentalization of the

two sectors could raise numerous inconsistencies and complexities in the absence of any

precise definition of the informal sector26 .

Thus, one of the basic criticisms of the dualistic approach has been the validity of

the assumption that the urban economy in the developing countries can be divided into

formal and informal sectors. Though there is considerable truth in this argument, it can,

at least partly, be attributed to the mistaken notion that the dualism denies

interdependence between the two sub-sectors. According to this view, it is pointless to

isolate the informal sector as a target group and suggest policies for employment

promotion and income generation through its development, insofar as much of its

problems can be traced to its subordinate position in relation to the formal sector which,

for reasons of its own interest and survival, would like to maintain the status quo. Focus

on the urban informal sector for purposes of employment promotion obviously does not

necessarily imply denial of such interrelationships between the two sectors, nor of

neglect of their implications for policy27 . Needless to add, much depends on what

information is collected from the informal sector and how it is analysed. It may be

necessary to divide the urban economy into more than two sub-sectors. However, only

empirical evidence can indicate how many meaningful and analytically significant sub-

sectors can be identified in order to draw valid policy conclusions in the field of

employment and income generation (Mitra, 1990)28 .

26
Joshi, H, "The Informal Urban Economy and its Boundaries," Economic and Political Weekly, [Link],
March 29, 1980, pp. 638-644.
27
Mitra, A., “Duality, Employment Structure and Poverty Incidence: The Slum Perspective”, Indian
Economic Review, Vol. 25, No. 1, 1990, p.25.
28
Mitra.A, 1990, [Link], p.26.
42
The conceptual discussion of the informal sector assumed complex and

controversial dimension because there are many different viewpoints from which one can

observe it. In positive perspective can be viewed as a provider of employment and

incomes to millions of people who would otherwise lack the means of survival. It can be

viewed negatively as a whole segment of society that escapes regulation and protection.

It can be romanticized as a breeding ground for entrepreneurship which could flourish if

only it were not encumbered with unnecessary regulations and the bureaucracy. It can be

condemned as a vast sea of backwardness, poverty, crime and in sanitary conditions, or it

can simply be ignored (ILO 1972)29 .

2.3. Informal Sector: Genesis and Development

The term Informal Sector (IS) has been attributed to Keith Hart (1971) but the

origin of the concept of IS can be traced to earlier contributions in sociology. For

example, Geertz’s study of two Indonesian towns (1963) was concerned with the

transformation of a ‘bazaar economy’ (traditional economy) into a ‘firm (modern)

economy’30 . The informal system originally refereed to the parallel system of labour

organization and wage bargaining that existed side by side the formal employer-labour

relationship in industrialized countries. In Less Developed Countries (LDCs), it was not

just the presence of a parallel system but the juxtaposition between two distinct modes or

ways of living and the imposition of Western ideas on the Orient which received wide

attention in sociology and social anthropology.

In economics also, prior developments (i.e. those before the publication of Hart’s

paper or ILO-Kenya Mission Report, 1972) were already leading towards IS as a

29
ILO: "Employment, Incomes and Equality: A Strategy for Increasing Productive Employment in Kenya",
Geneva, 1972, p. 76.
30
Hart, K., “Informal Income Opportunities and Urban Employment in Ghana”, J. Mod. Afr. Stud. 11,
1973, pp. 61-89.
43
substantive category. Thus, Harris-Todaro model of rural-urban migration (1970) looked

upon the urban labour market as consisting of two sectors viz., protected (modern) and

unprotected (informal) sectors31 . The model viewed migration as an equilibrating force

that cleared the labour market given the difference between rural wage based upon cost

of living differential and the facility of job search in urban areas. Simultaneous existence

of open unemployment and migration in the labour market indicated the possibility of

market failure. Harris-Todaro model sought to explain this anomaly by introducing a

new variable in the picture, viz., the probability of obtaining a modern sector job in the

urban economy (Mehta, 1985)32 . In this model, migration depends upon the difference in

expected real income between urban and rural areas. With an urban real wage premium

and a rate of job creation that exceeded the rate of natural population growth, migration

was induced and urban labour supply exceeded the number of available jobs. The excess

job-seekers were temporarily accommodated in Informal Sector (IS) where they formed

a queue for getting a protected sector job was reduced and migration flow was checked.

Operating through the probability variable Informal Sector (IS) thus helped to regulate

migration33 .

Harberger (1971)34 argued that unprotected sector wages were the best

approximation to the supply price of labour in urban areas. Otherwise, opportunity cost

of urban labour was equated with agricultural wage. At one time (Nurkse, 1953), the

marginal product of labour in agriculture was thought to be zero and so urban labour’s

31
Sethuraman, S. V., “The Urban Informal Sector”, Int. Lab. Rev. 114, 1, 1976, p. 75.
32
Mehta, M., “Urban Informal Sector – Concepts, Indian Evidence and Policy Implications”, Economic
and Political Weekly, Vol. 20 (8), 1985, p. 328.
33
Majumdar, A, “In-migration and Informal Sector: BSIR”, Delhi, 1980, p. 248.
34
Harberger, A. C., “On Measuring the Social Opportunity Cost of Labour,” International Labour Review,
Vol. 103, No. 6, 1971, pp.55-54.
44
opportunity cost was also zero35 . Harberger did not accept this view. He argued that had

urban labour’s opportunity cost indeed been zero, rural-urban migration would have been

far greater than what was observed. He drew attention to the contribution of IS in

providing subsistence to those who would otherwise have been openly unemployed 36 .

Around this time, it was also being gradually accepted that the Western concept

of open employment was not directly applicable to LDCs. Only those persons who are

willing to work at the prevailing wage rate and who are actively seeking work are

counted as openly unemployed. Past savings or institutional support in the form of

income-sharing within family or state unemployment benefits enable a person to fulfill

the above two conditions.37 Their absence leads to a suppression of open unemployment

and vice-versa. (The concerned literature has also explored the role of generous

unemployment benefits in reducing the motivation to seek work). Informal sector can

compete with other institutional arrangements in regulating the quantum of open

unemployment benefit and informal sector are inversely related to each other as rivals.

The high unemployment benefit leads to low informal sector presence and high

incidence of open unemployment. As against this, the low unemployment benefit leads

to high informal sector activity and low level of open unemployment. The policy

implication is that if unemployment benefits are considered very costly, the state ought

to promote informal sector. Conversely, if it wants to limit the size of IS, it has to offer

unemployment benefits. Then the quantum of open unemployment will be within

35
Nurkse, R, Problems of Capital Formation in Underdeveloped Countries, Basil Blackwell, Oxford, 1953,
p.111.
36
Sethuraman, S. V. “Urban Poverty and the Informal Sector: A Critical Assessment of Current
Strategies”, ILO, Geneva, 1997, p.41.
37
Singh, V. and G. P. Kowale, “Employment Conditions, Exploitation, Safety, Income in Home -Based
Enterprises in Brassware Industry of Aligarh”, Conference on Housing, Work and Development: the Role
of Home Based Enterprises, University of Newcastle upon Tyne. 26-28 April 2000, p.65.
45
acceptable limits38 . In LDCs, observed rates of open unemployment have generally been

low and the role of informal sector is not insignificant in this connection.

Thus, as a regulator of both rural-urban migration and open unemployment, the

contribution of IS was gradually being recognized in economics. The above

developments treated ARE as a labour market category. The ILO-Kenya Mission Report

treated IS as a product market category. It reviewed IS as a cluster of economic activities

which escaped recognition, enumeration, regulation and protection by the government.

According to the report, these activities were none the less productive and hence it made

a strong case for promoting informal sector.39

The concept of informal sector attracted a lot of attention since it provided a vital

missing link in particularly development economics. The nature and role of small-scale

development in classical political economy. Petty commodity production was

extensively studied in Marxist literature. In neo-classical economic thought, however,

small production units had been ignored. IS hence, appeared to fill an important gap.

In Marxian economics, LDCs, petty producers and peasantry constituent weak

links of the capitalist system. Petty producers or petty production constitutes the bulk of

IS. Petty producers stand in between capitalist and the working class. They consider

themselves to be capitalists but their interests are close to that of the working class for,

both are used by capitalists to externalize their costs. A few petty producers might be

able to transform themselves into capitalists but most of them are forced to eventually

join the working class; some may even join the industrial reserve end is inhabited by

38
Mahmud, S. "Women and the Transformation of Domestic Spaces for Income Generation in Dhaka
Bustees", Cities 20(5), 2003, pp. 321-29.
39
ILO, Official Bulletin of the “15 th International Conference of Labour Statisticians”, Geneva, LXXVI,
1993, pp.178-88.
46
small firms which smuggle raw materials, which have very low overheads and which

excel in reverse engineering40 .

2.4. Black sector – all illegal activities

IS would be the total of mauve and grey sectors in this classification. Because of

the heterogeneity of activities included in IS, characteristics which are used to define

informality do not apply to all the activities. For instance, ease of entry is a foremost

feature of informality and yet many informal activities (e.g. shoe-shining and even rag-

picking at the lowest level of informal activities) may defy this feature.

When diverse elements get clubbed together in one category, it becomes difficult

to identify those parts which have some growth potential vis-a-vis those which face

evolutionary prospects. Then there arises the danger of making wrong policy

recommendations. Thus, policies which are designed to help small enterprises will not

necessarily help their wage workers. Policies which benefit wage workers in FS may

harm the interests of casual/temporary workers, home-based workers, etc., independent

manufacturing units in informal sector may not welcome the promotion of

subcontracting links between formal and informal enterprises; policies which help

informal firms carrying on legal business may not help those carrying out illegal

activities, etc., therefore a single policy prescription for informal sector is ruled out.

Informal sector is so large and diverse that a range of measures from direct assistance

incentives-rehabilitation and even persecution is called for (Papola, 1976)41 .

40
Moser, C, "The Informal Sector or Petty Commodity Production: Autonomy or Dependence in Urban
Development", DPU Working Paper No 3, 1977, pp. 45-52.
41
Papola, T.S. "Wage Determination in the Unorganised Sectors in Urban Areas: A Framework for
Analysis", Gujarat Economic Conference Papers, Gujarat Economic Association, Ahmedabad. 1976.
47
2.5 Definition of Informal Sector

The above ambiguity is also reflected in the maze of definitions of informal

sector. Most of the definitions simultaneously emphasize a number of attributes of

informality. Firm size, type of employment, technological competence, income level,

capital employed and legal status are the oft-used criteria to delineate informal activities.

Prominent definitions of IS are presented below.

The ILO-Kenya Mission42 defined the IS based on certain broad features. They
are:

(a) No access or limited access to resources such as institutional credit, foreign

The definitions suggested at the 14th International Conference of Labour

Statisticians, ILO (1987) distinguishes between registered and unregistered units and the

difference between the two boils down to scale of wage-employment, provision of

social-security for wage-labourers and source of energy for the manufacturing process43 .
44
Joshi and Joshi (1976) have emphasized three variables, viz. Relationship with

government, market structure (whether competitive or not) and nature of technology for

distinguishing IS activities. These definitions approach IS as a product market category.

42
ILO, “Employment, incomes and equality: a strategy for increasing productive employment in Kenya”,
(Geneva) 1972, pp. 25-48.
43
ILO, “Home Work Report, International Labour Conference 82 nd Session”, Geneva, 1994, p. 56.
44
Joshi, H and V. Joshi, “Surplus Labour and the City: A Study of Bombay”, Oxford University Press,
Delhi, 1976, p. 45.
48
Squire (1981) has given the most clear-cut definition of IS as a labour market

phenomenon – Informal Sector is a sector in which return to labour is determined by the

forces of demand and supply45 .

An interesting attempt to integrate the various strands of Marxian thinking on

informal sector is made by Nattrass (1987)46 . Here, informal sector becomes a set of

petty production activities manned by persons in the industrial reserve army, the

Marginal Pole (MP) and also those holding formal jobs. Marginal Pole is characterized

by the lack of access to basic resources (e.g. land, capital, including human capital)

therefore, it operates around residual resources.

This approach leaves out enterprises employing wage-labour in informal sector

and is hence inadequate. Nattrass then clarifies that informality should be associated with

any two of the following characteristics:

 labour-intensive operations
 small-scale operations
 existence outside official rules and regulations.

The concept of informality has been extended also by tracing its links with

illegality (Tokman, 1989)47 . The idea that informal activities were clandestine activities

was present in ILO-Kenya Mission. According to the first, informal activities arise due to

the pressure to reduce labour costs and to gain flexibility. Decentralization to avoid or

diminish trade union power is another motive. While the desire to do away with rigidity

caused by legal provisions is found in both, developed countries and LDCs, its effects

45
Squire, L, “Employment Policy in Developing Countries”, Oxford University Press, Delhi, 1981, p. 67.
46
Nattrass, N, “Street trading in Transkei: a struggle against poverty, persecution, and prosecution,”
World Development 15 (7): 1987, pp.861-75.
47
Tokman, V, “Policies for a heterogeneous informal sector in Latin America,” World Development,
17(7), 1989, pp. 1067-76.
49
are dissimilar in the two. In developed countries, in the absence of a chronic labour

surplus, decentralization could well mean increased labour remuneration accompanied,

however, by loss of job security. Surplus labour exists in LDCs and so the desire for

decentralization leads to a whole lot of informal activities which are not dynamically

related to FS. In the second line of enquiry, attention is drawn to the inadequate

legislation and inefficient bureaucracy in LDCs. The difficulty in enforcing the existing

regulations leads to a large number of activities existing beyond the pale of law.

Paradoxically, therefore, laws and governments are responsible for the existence of

informal, i.e. non-regulated, activities.48

2.6. Informal Sector Units

The foregoing discussion does not enable us to come to a precise definition of the

informal sector. The logic for concern for development of informal sector, as expressed

in the Kenya Report49 , is summarised by Sethuraman, in following words: "The basic

reason for the introduction of this term in Kenya Employment Mission Report followed

from the new widely recognised fact that it takes a very long time for the benefit of

general development policies to trickle down to the poorest sections of the population.

Effective development needs to be focused directly on a specific 'target' population and

the Employment Mission c6nsideted that perhaps the most important of such target

group in urban areas was what it described as the informal sector" The identification of

the characteristics of informal sector enterprises have accordingly followed this concern,

and have been derived mostly from the empirical studies conducted in various cities in

developing countries. The following are some important characters taken into

consideration to identify informal sector enterprises.

48
Tokman,1989, Op Cit, p. 1054.
49
Squire , 1981, Op Cit, p. 145.
50
Small Size of Operations: The differentiation is generally made on the basis of size of

employment. On the one hand, it is sometimes suggested that single-worker

establishments, and those with only self-employed and own-account workers, form the

core of the informal sector. On the other hand, it is felt that this would unnecessarily

restrict the scope of the informal sector, since many of the establishments using hired

labour also reveal the disadvantaged characteristics.50

Informal Structure and Family Ownership: Informal sector enterprises being small do

not depict the style of larger and modernized organizations in terms of structure, division

of labour communicate, supervision, etc., many a time they are propriety based with

extensive use of family labour.

Non-Modern Technology: The formal and informal sector distinction based on modern

technology is only to indicate the simplicity in procedures with dominance of manual

operations and labour to be more specific, the intent of using technology as variable in

distinguishing informal from formal sector is to highlight that the informal sector units

use labour-intensive, pre-dominantly manual, low productivity techniques of -

production, as compared to capital-intensive, highly mechanized and high productivity

ones used by the formal sector units.51

Lack of Access to Government Favours: Formal sector bias is the traditional allegation

against the governments in developing and developed countries as the formal sector

enterprises are reported to have access to resources controlled and distributed by the

government. The advantages of organised capital market, like bank finance, foreign

technology, imported raw material, protection from foreign competition, etc, are largely

50
Raj and Mitra, 1990, Op Cit. p.818.
51
Raj and Mitra, 1990, Op Cit, p.822.
51
not available to the informal sector enterprises. The informal sector units have also been

found to enter certain activities requiring legal permission without obtaining it or to

acquire certain inputs requiring licence from the illegal market, as "a consequence of

official limitation of access to the formal sector". The bureaucratic procedures which

have to be followed to obtain scarce inputs, such as foreign exchange, are complicated

enough to put them at a serious disadvantage or force them into riskier black market

transactions. Consequently, they feel insecure in these operations and are afraid of the

harassment and punishment by the public authorities. The government's attempts to

enforce certain regulations are naturally considered by these enterprises as 'hostile'

conditions making their operations difficult.

Unprotected Labour Market: The labour market characteristics play very significant

role in differentiating formal and informal sectors. The labour market for the informal

sector is unregulated and highly competitive on the supply side, with absolute freedom to

entry, while that in the formal sector is regulated and has entry restricted on the basis of

standard hiring norms and formalised hiring procedures. The supply of labour in the

informal sector consists of mostly new entrants in the labour markets - in-migrants or

young person’s entering the labour force, who aspire for jobs in the formal sector, but

finding the opportunities for it limited and entry restricted, start doing something or the

other in the informal sector either as self-employed, part-time workers, apprentices or

full time workers in small establishments. Earnings in the informal sector are relatively

very low compared to the formal sector - almost half or even less; yet they are found to

be higher than what the migrants from rural areas could have earned at the place of their

origin.52

52
Raj and Mitra, 1990, Op Cit, p. 823.
52
2.7. Home based employment in informal economy

The term “home-based workers” refers to three types of workers who carry out

remunerative work with their homes – dependent subcontract workers, independent own

account producers, and unpaid workers in family businesses – whereas the term “home-

workers” refers to the first category only. Despite the limitations to existing official

statistics, available evidence suggests that home-based work is an important source of

employment, especially for women, throughout the world: over 85 percent of home-

based workers in most countries are women. Despite working from their homes, many

home-based workers are linked to the global economy through global subcontracting

chains, also called global value chains. A key dimension of global integration of the

economy is a restructuring of production and distribution into global value chains. In

these “global assembly lines”, lead firms place orders or outsource to suppliers who put

out work to sub-contractors who operate small production units or, in turn, put out

production to homeworkers53 .

Within the statistical community, application of accurate terminology is

important. To the layperson, the terms “informal sector”, “informal economy”,

“employment in the informal sector” and “informal employment” might all seem to be

interchangeable. They are not. The nuances associated with each term are extremely

important from a technical point of view. The following can serve as an easy reference

for the terminology associated with informality and their technical definitions:

53
Carr, M, Martha A. C, and Jane T., “Globalization and Home-based Workers”, Feminist Economics,
Vol. 6, No. 3, 2000, pp. 123-142.
53
1. Informal economy all economic activities by workers or economic units that
are – in law or practice – not covered or sufficiently
covered by formal arrangements (based on ILC 2002)
1. Informal sector a group of production units (unincorporated enterprises
owned by households) including “informal own-account
enterprises” and “enterprises of informal employers”
(based on 15th ICLS)
2. Informal sector enterprise unregistered and/or small-scale private unincorporated
enterprises engaged in non-agricultural activities with at
least some of the goods or services produced for sale or
barter (based on 15th ICLS)
4. Employment in the all jobs in informal sector enterprises (c), or all persons
informal sector who were employed in at least one informal sector
enterprise, irrespective of their status in employment and
whether it was their main or a secondary job (based on
15th ICLS)
5. Informal wage all employee jobs characterized by an employment
employment relationship that is not subject to national labour
legislation, income taxation, social protection or
entitlement to certain employment benefits (based on 17th
ICLS)
6. Informal employment total number of informal jobs, whether carried out in
formal sector enterprises, informal sector enterprises, or
households; including employees holding informal jobs
(e); employers and own-account workers employed in their
own informal sector enterprises; members of informal
producers’ cooperatives; contributing family workers in
formal or informal sector enterprises; and own-account
workers engaged in the production of goods for own end
use by their household (based on 17th ICLS)
7. Employment in the sum of employment in the informal sector(d) and informal
informal economy employment (f) outside the informal sector; the term was
not endorsed by the 17th ICLS
Source: Reproduced from S. Elder and M. Corley: “Measuring the informal economy:
Statistical challenges”, in Policy Resource Guide on the Informal Economy (Geneva,
ILO), 2013. P.12

2.8. Issues and Problems in Informal Sector

Internality is the code of the informal sector operations. Informality may bring

positive or negative impacts on the economies. For governments, informality can be a

54
problem. The governments cannot collect taxes from informal businesses and in turn are
54
unable to finance the provision of good public services.

Further, the informal sector might also be a solution for unemployment problems

a positive factor for the governments struggling to provide employment. Where the

formal economy cannot absorb the surplus labor, due to its own limitations, the informal

sector is the ideal remedy. In developing countries especially, the governments tolerate

informality to a large extent. And use it as a means to address the issue of unemployment

by creating a favorable framework for promoting the informal economy55 .

Although informality creates jobs and generates income, it has its own problems.

Workers in the informal sector lack access to social security offered by governments.

Some key issues pertaining to the informal sector viz., tax evasion, lack of policy

support, etc. are discussed below:

2.8.1. Tax evasion

As most of the informal sector enterprises are unregistered the governments

cannot collect taxes. Further, their informal nature of financial operations and lack of

proper accounting makes it further difficult for governments to assess the tax. This

means that though the informal sector economy contributes largely to the GDP, the

governments are unable to benefit by way of taxation which in turn affects the welfare

programmes adversely due to funding limitations.

2.8.2. The Informal Sector finds no place in planning

The informal economy is most often considered by urban planners as a spatial

problem – where to locate informal trading zones – rather than as an integral part of the
54
Fapohunda, O. J., “The informal sector of Lagos: an inquiry into urban poverty and employment”,
Ibadan, Nigeria, University Press Ltd.1985, p. 212.
55
Ibid, p. 84.
55
local economy. Efforts to integrate their activities with the formal sector are always

missing in the developing countries.

2.8.3. Lack of appropriate policies from government

From a government perspective, various factors contribute to the difficulty of

putting together appropriate policies towards the informal economy. These factors

include instability and vulnerability of informal worker’s representation and associations;

proliferation of organisations representing informal workers in each city or town;

complex co-ordination processes within municipalities, each using its own strategies as

well as low literacy levels resulting in informal workers being unable to exercise their

constitutional rights and duties.

The informal sector is always marginalized due to absence of policy and legal

support thereby leading to harassment, tensions and frustrations. Relationships with

police are usually strained, especially law enforcement agents who are viewed as

antagonistic to the informal trading sector. Relationship with local government is also

often tense, especially where informal traders’ goods are constantly being confiscated

and impounded. Furthermore, general lack of common ethics, values and policy

guidelines from local government authorities often creates a breeding ground for tensions

and frustrations for informal traders.

2.9. Constraints for informal-sector development

The informal sector suffers from several constraints – external and internal. The

external constraints basically related to policy and legal environment and market and

income factors. At the outset, the development policies which governments pursue

themselves affect the informal sector adversely. Industrialization and importing modern

56
technologies, in pursuit of import substitution and export promotion, are heavily

favoured through the provision of serviced land, credit at favourable interest rates,

accelerated depreciation of machinery, import licences for scarce inputs, transfer of

profits, protection of local markets through import control etc. The second area is legal

environment: rules, regulations or standards frequently result in discrimination against

informal enterprises. In India, for example, the legal provisions affecting hawkers give

the municipal corporations and police the right to confiscate merchandise, remove any

physical structure and impose fines. The issuing of licences is usually handled very

restrictively, and this can leave the vast majority of hawkers open to fines, although, for

practical purposes, fines may be regarded as a form of "haphazard taxation", since the

offender is usually allowed to carry on with his illegal activity once a "fine" has been

paid. Similar rules and regulations affect practically all informal activities, whether these

are traffic acts which restrict private minibuses or zoning laws which prevent

manufacturing in most areas of a city. Other set of external constraints relate to access to

credit, raw material and marketing. Practically, all informal-sector studies conclude that

the lacks of financial resources and of access to credit facilities are main obstacles to

expansion. Access to credit refers to conventional bank credit, because informal credit

might be available but only at exorbitant cost and usually at the cost of independence.

Credit from suppliers and moneylenders frequently leads to dependence and exploitation,

with the result that practically all surpluses produced is transferred to them, leaving no

savings for development of the enterprise. Access to raw materials is another area where

informal-sector enterprises face difficulties and often depend on the formal sector or

have to compete with formal-sector enterprises56 .

56
ILO: "Employment, Incomes and Equality: A Strategy for Increasing Productive Employment in Kenya",
Geneva, 1972, p. 67.
57
The informal-sector enterprises on the marketing side are generally weak which

in turn restricts their incomes and employment. Many small producers of commodities

have their workshop as the only outlet, but producing only to order leads to

underutilization of labour if there is not enough demand, while limiting the labour force

leads to inability to carry out orders if they come suddenly in large numbers. The fierce

competition within the sector is another often-cited cause for the low incomes earned.

Large numbers of enterprises competing for limited demand cause price competition

which narrows margins and lowers incomes. This is especially acute in trade and service

activities, where entry barriers are particularly low and where large numbers of new

entries give rise to the fear that incomes will fall below the minimum needed for

survival57 .

2.9.1. Internal Constraints

Lack of managerial skills is frequently cited as one of the main internal

constraints to the growth of informal-sector enterprises. For instance, lack of proper

accounting might mean inability of a small-scale entrepreneur to calculate net income

over monthly periods: such a failure could hide the fact that an enterprise is living off

and slowly reducing its capital. Surveys of informal-sector enterprises usually find lame

numbers of fairly recent entrants who have been in business for less than two years,

which indicates a considerable horizontal growth. However, there is no way of

estimating the number of failures who have gone out of business during the same

period58 . The reluctance even of successful entrepreneurs to invest in expansion of

businesses might indicate a lack of market information and an absence of ability to plan

57
Chen, M. A, “Rethinking the Informal Economy: Linkages with the Formal Economy and the Formal
Regulatory Environment”, Geneva; United Nations, 2007, p. 57.
58
Ghai, D.,“ Decent work: Concept and Indicators”, International Labour Review,142, 2003, pp.133–145.
58
for the future but might equally reflect a sound assessment of the ability to organize and

supervise expanded production and marketing. 59

2.9.2. Opportunities

Informal business accounts for 35-50% of GDP in many developing countries

and more in some cases. Paradoxically perhaps, the sector contains both

entrepreneurial spirit and the struggle for subsistence. From one perspective, informal

businesses have an unfair advantage in avoiding taxation. On the other hand, these

businesses lack legal rights, and are unable to access public services or formal sources of

credit. The solution is neither to neither encourage nor suppress informal economic

activity but rather to facilitate the transition of informal businesses to the formal sector

and reduce barriers for all business (formal and informal). Opening routes to formality

creates new opportunities for the poor to realize their potential and raise national

competitiveness. Acquiring formal status allows entrepreneurs to access formal markets,

invest with security, obtain new sources of credit, and defend their rights.60

An effective route to formality, however, requires more than registration and

enforcement. It requires the tearing down of barriers at the origin of informality to

improve the business climate for all entrepreneurs. Lowering barriers increases business

opportunities while facilitating compliance. Informal entrepreneurs have tremendous

potential, but in order for them to realize that potential they must be allowed to make the

shift into the modern market economy. This will give the same opportunities to all

entrepreneurs and create higher-quality new jobs.

59
Raj and Mitra, Op Cit, 1990, p.463.
60
Bescond, D., Chataignier, A., & Mehran, F., “Seven indicators to Measure Decent Work: An
International Comparison”, International Labour Review, 142, 2003, pp. 179–211.
59
2.10. Potential for informal-sector growth

Pessimistic researchers regard the growth of employment as involuntary,

referring to the fact that agriculture and the formal secondary and tertiary sectors are

unable to absorb growing labour forces. Thus, growing numbers of people are forced to

seek income opportunities in the informal sector, which will consequently decrease real

incomes per worker. Particularly, the trade and service subsectors are generally regarded

as overcrowded and as offering little prospects for increased incomes. Some researchers,

who emphasize the links between the informal and the formal sectors, conclude that

growth potential is dependent on formal-sector growth. Only if the formal sector grows,

demand for goods and services produced by the informal sector increase, thus providing

employment and incomes. It is observed that much of the informal sector is subordinate

to formal-sector enterprises which control markets and restrict access to raw materials

and capital. Here, these cases, the relationship becomes exploitative, transferring surplus

produced in the informal sector to the formal sector, thus hindering the process of capital

accumulation and the improvement of incomes of those working in the sector61 .

The debate on capacity for growth of the informal sector, i.e., the ability to

accumulate capital, remains inconclusive. This is probably the result of the deficiencies

of the formal/informal dichotomy concept which provides too wide a definition for the

informal sector to allow a meaningful assessment of the sector's capability to generate

autonomous growth. While a number of subsectors in manufacturing and services will

grow, others are unlikely to find sufficient demand for their goods and services.

61
Raj and Mitra, 1990, Op Cit, p.520.
60
2.11. Issues in Policies and Reforms

About 70% of those employed under the informal economy in the world are

considered non wage employees, including self-employed, family labor and

apprenticeships. Wage employed are observed to be in the range of 30 to 40%. Most of

those are able to produce a survival income but others can be characterized as micro-

enterprises that provide sufficient income to the entrepreneurs to leave above the poverty

line. In addition, informal businesses can satisfy the demand of goods and services by the

other agents of the informal economy in proportionally affordable terms 62 .

Credit programmes for small enterprises aim at removing one of the principal

constraints - the inability of informal-sector enterprises to accumulate capital for

expansion. However, the delivery system for such credit programmes needs to be

developed, since existing finance institutions have no experience in dealing with small

enterprises, such as in assessing their creditworthiness and their chances of success in

using proposed investments. They have no branch network to deal with large numbers of

clients and they are not equipped to follow up and provide advisory services to

borrowers, if problems arise. Evidence shows that programmes are most effective if

channelled through private, non-profit voluntary organizations which have close

relations with the people or through co-operative movements which have been successful

in many countries as channels for credit to small enterprises. As the informal sector

workers need better expectise, they require extension networks close to the target

population to be able to reach the right people. Informal settlements like slums and

squatter settlements are the main locations of informal-sector enterprises. Improvement

of living and working environments can be an important factor in the promotion of

62
Ghai,. 2003, Op Cit, p. 147.
61
informal-sector enterprises, and provision of services, resolution of tenure problems and

improvement of dwelling units, which in many cases double as workshops, might be a

prerequisite for successful development of an enterprise. Squatter-settlement upgrading

programmes have frequently faced the problem that the overriding priority of the target

population is not to improve dwellings but to increase income and employment

opportunities.

Summing-Up

The informal sector represents an important part of the economy, and in many

countries it plays a major role in employment creation, national productivity and income. In

countries with high rates of population growth or urbanization, the informal sector absorbs

most of the expanding labour force in the urban areas. Informal employment offers a

necessary survival strategy in countries that lack social safety nets, such as unemployment

insurance, or where wages and pensions are low, especially in the public sector.

Globalization has also contributed to the informalization of the workforce in many countries.

Global competition erodes employment relations by encouraging formal firms to hire

workers at low wages with few benefits or to subcontract (outsource) the production of

goods and services. In addition, the process of industrial restructuring in the formal economy

is seen as leading to greater decentralization of production through subcontracting to small

enterprises, many of which are in the informal sector. The informal economy poses a

challenge to policy-makers for which appropriated to achieve goals viz., improving the

working conditions and legal and social protection of persons in informal sector employment

and for employees in informal jobs; increasing the productivity of informal economic

activities; developing training and skills; organizing informal sector producers and workers;

and implementing appropriate regulatory frameworks, governmental reforms, urban

development, and so on. Poverty, too, as a policy issue, overlaps with the informal economy.
62
There is a link – although not a perfect correlation – between informal employment and

poverty. This stems from the lack of labour legislation and social protection covering

workers in informal employment, and from the fact that persons in informal employment

earn, on average, less than workers in formal employment. Urban informal enterprises are

predominantly constituted by activities that, by and large, have no technological linkages

with the large firms. The above discussion on the various attributes of the urban 'informal

sector' suggests that it is difficult to identify it as a distinct analytical category; the various

characteristics attributed to it are not necessarily consistent with each other, nor are they to

be found universally in different empirical situations. Nor do these characteristics provide a

clear identification of the 'informal' sector as the only and certainly disadvantaged sector

deserving supportive policy measures. It is observed that the features attributed to the

informal sector are generally associated with the lack of adequate resources manifest in the

small size of operations. As a matter of fact, the disadvantages ascribed to the informal

sector are primarily due to the small size of establishments. Other characteristics of these

enterprises attain relevance depending on the policy questions being considered and policy

measures being suggested, which means that it would be difficult to evolve a uniform policy

for all types of enterprises in the informal sector. While informal sector has many

opportunities, it is also faced with challenges which need to be addressed. However, the

problems and issues pertaining to home-based workers in Hyderabad City are discussed

further in the next chapters beginning with their socio economic profile which will facilitate

to analyze the conditions and reasons as to why they opted for home-based work, how are

they financially placed, the level of government support and benefits received and the

problems being encountered.

63