The informal economy – a hotbed of entrepreneurialism?

Benedict Dellot of the RSA examines the informal economy and what potential may be found within it to stimulate the nation's economy.

 

Benedict Dellot is a researcher at the RSA

When you hear the term ‘informal economy’, what immediately springs to mind? Perhaps the exploitation of migrant workers being paid under the minimum wage. Or maybe the greed of rogue traders who keep some, if not all, of their income off the books. Whatever it is, more often than not it will involve an image of mistreatment or excessive self-interest.

The informal economy has been seen in this light ever since it first became a prominent concern ten years ago with the publication of Lord Grabiner’s report (pdf) into the issue. For Grabiner and for the government as whole, undeclared work was thought to be a surreptitious activity allowed to take root when people calculate the benefits of tax avoidance are higher than the chances of getting caught.

The natural remedy to this ailment was to introduce more punitive measures, including severe punishments for those who are caught engaging in such work.

This week, the RSA, in partnership with Community Links are publishing a report that seeks to introduce a fresh perspective into what has become a stale debate. We argue that instead of just seeing the informal economy as a place of misdeeds and untoward activity, we should begin to recognise it as a potential hotbed of entrepreneurialism.

Our research indicates that while there do exist many informal entrepreneurs who engage in undeclared work solely to earn extra income, there are many others for whom formalisation is simply out of reach. In their case, undeclared work occurs due an exclusion from the formal sphere rather a conscious decision to exit it. We have found that for many entrepreneurs business registration is rarely a simple decision to be made but a long and somewhat arduous journey to complete.

Our YouGov poll  of some 600 small business owners showed 20 per cent had traded informally when starting their company.

Of these:

• 40 per cent said one of the main reasons for doing so was because it gave them the breathing space needed before they had the capacity to register their business;

• 68 per cent said it was because they first wanted to see if their business would be viable; and

• Only 9 per cent said they engaged in informal trading to earn extra income

Reasons-given-by-small-business-owners-for-trading-informally

Nearly half (48%) of all respondents cited red tape as one of the biggest individual factors preventing entrepreneurs from being able to register their business, and 34 per cent identified high business and personal taxes as a major barrier to formalisation.

For this reason, we are calling on government to do more to support informal entrepreneurs who want to register their business. This stands in contrast to the UK’s historic approach which has been to try and stamp out informal activity through measures of deterrence.

A central part of such a step-change would be the introduction of a ‘stepping stone’ support model – originally devised by Community Links – that would see services guide informal entrepreneurs along their journey towards registration – from becoming aware of their obligations, to finding business advice and mentoring, to finally becoming VAT registered.

This is not to say punitive measures should be done away with altogether, but rather that we develop a rich mix of mechanisms to encourage and enable formalisation. Indeed, we suggest the informal economy should be seen as a ‘wicked’ problem that requires ‘clumsy’ solutions broaching a variety of different methods.

Finally, we want government, business and wider society to consider an important but as yet unanswered question: can we learn to live with the informal economy? If we are to recognise the route to formalisation as a journey to be completed over a period of many months, this implicitly also means accepting informality as a legitimate transitionary period.

Of the small business owners we surveyed, even those that hadn’t engaged in informal activity agreed with this statement: 47 per cent (compared to 39 per cent) of all respondents agreed that engaging in informal trading is often a necessary step as part of the journey towards becoming a successful entrepreneur.

Of course, nobody expects senior politicians or civil servants to declare informality to be legitimate overnight. Nonetheless, we need to begin stoking this debate and try harder to bring the issue of informality to the surface of discussions in and around Whitehall. If we sit back and continue to treat informal entrepreneurs as a nuisance rather than as an asset, we run the risk of losing a vast amount of untapped entrepreneurial potential – something we need now more than ever.

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