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VGoods and the Role of the Urban Informal Sector in Development

Author(s): GustavRanis and FrancesStewart


Source: Economic Development and Cultural Change, Vol. 47, No. 2 (January 1999), pp. 259-288
Published by: The University of Chicago Press
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V-Goods and the Role of the Urban Informal Sector


in Development

Gustav Ranis
Yale University
Frances Stewart
Oxford University
I. Introduction
The urban informal sector of developing countries is often described as
a low productivity backwater sponge absorbing those who cannot find
productive employment in formal urban activities. In contrast, others
suggest that the sector can make an increasingly important contribution
to employment and income generation. While previous analyses have
tended to focus on the sector in isolation, the intention of this article is
to advance the debate by examining it in relation to the rest of the economy. An essential feature of this analysis will be to divide the sector into
two parts, a modernizing, dynamic component and a traditional, stagnant
one.
Much of the large literature on the urban informal sector is devoted
to definitions.1 Proposed alternatives include the legal status of the activitiesthat is, the sector comprises everything falling outside the reach of
government regulations;2 the size of establishments, including all enterprises of 10 or fewer workers; or the use of simple, traditional technology. Our focus will be on establishments with 10 or fewer workers. Although some of these enterprises might well be classified as formal by
some criteria, there is a strong correlation between smaller size enterprises and the other criteria of informality. In most less developed countries (LDCs), governments with limited administrative resources tend to
focus on large-scale operations when trying to collect taxes or enforce
minimum wage legislation. Unions also concentrate on larger firms,
which can be reached more easily, so that their efforts will achieve maximum results.3 Furthermore, smaller enterprises tend to utilize more tradi 1999 by The University of Chicago. All rights reserved.
0013-0079/99/4702-0004$02.00

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Economic Development and Cultural Change

tional technologies. In any case, the pursuit of precise definitions is not


critical to our analysis.
The first four sections of this article develop a framework for analyzing the urban informal sector in an economy-wide context. Section II
examines the determinants of the overall employment level of the informal sector. Section III presents the case for dividing the sector into a
traditional component that provides a living for those not absorbed elsewhere and a modern component that is largely demand-pulled via links
with the formal sector. Section IV analyzes the functioning of these two
components in relation to the rest of the economy. This permits us to
consider alternative dynamic paths and outcomes in Section V. Section
VI summarizes some cross-country evidence on orders of magnitude and
concludes with a comparison of the Philippines and Thailand that relates
their contrasting macroperformance between 1960 and 1990 to the differing roles played by their urban informal sectors.
II. Determinants of Employment in the Urban Informal Sector (V)
The size of the urban informal sector labor force (E v ) is the cumulative
outcome of a number of interactions within the economy as a whole.
These include the extent to which the rural sector is able to absorb labor
in relation to its initial population pressure, population growth, and the
employment opportunities presented by the growth of the urban formal
sector. Although the Harris-Todaro model ignores the informal sector, its
approach provides powerful insights into the determinants of its size.4 As
Harris and Todaro put it, relative employment opportunities and wage
gaps between the rural economy and the urban formal sector explain the
rate of rural-to-urban migration. For them, open urban unemployment is
the outcome of this process. But, as has been widely noted, rural-tourban migration also feeds a V-sector. Indeed, for very poor people,
joining the V-sector is nearly always preferable to open unemployment,
because membership in that sector provides some income without preventing continuation of the search for a formal sector job.
To consider these relationships more fully, unskilled labor can be
divided into three groups: rural laborers, workers in the urban formal
sector, and workers in the urban informal sector. In seeking to maximize
income, rural workers will migrate to urban areas as long as the wage
they expect to earn in urban employment, formal or informal, exceeds
their income from rural employment.
For simplicity, we make certain assumptions, some of which will
be relaxed later. We assume, first, that incomes in the urban formal sector are greater than those in rural employment, whether agricultural or
nonagricultural;5 second, that individuals move from rural to urban areas
when they believe they can increase their incomes by doing so; third,
that search and migration costs are negligible; fourth, that the informal
sector has zero costs of entry; fifth, that the income of workers entering

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Gustav Ranis and Frances Stewart

261

the informal sector is positive, if low; and sixth, that there is no open
urban unemployment among unskilled workers.
Given these assumptions, we can derive an expression for the determinants of migration and, implicitly, for the size of the urban informal
sector. Let the workers expected rural income be equal to G(w r ); if risk
neutral, the worker will migrate if the expected urban income, G(w u ),
exceeds this value. Expected urban income is assumed to be calculated
on the basis of the incomes anticipated from the two types of urban employment and the probability of securing each. Expected urban income
is thus assumed to be equal to the formal sector wage, multiplied by the
probability of obtaining a formal sector job, plus informal sector earnings, multiplied by the probability of being employed in that sector. Note
that we simplify our analysis by not comparing lifetime, but only oneperiod, expectations.
Let the probability of obtaining a formal sector job in a particular
period be P f ; it is assumed that P f E f /(E f E v ), or the ratio of formal
sector employment (E f ) to total urban employment.6 Let the formal sector
wage be w f and the informal sector wage be w v . By such interventions
as minimum wage legislation and trade union activity w f tends to be
raised and is typically substantially above both w r and w v . Like w r, w v is
likely to be related to the average product of the sector and is liable, ceteris paribus, to decline with new entrants. Since there are assumed to be
zero entry costs into the informal sector, all urban labor can be assured
of some sort of employment, either in the formal or informal sectors. The
probability of some form of urban employment is, therefore, 1, and, by
deduction, the probability of informal sector work is (1 P f ), that is, the
V-sector takes the place of open urban unemployment as an equilibrating
variable.
In equilibrium, the expected urban wage, w u, is equivalent to the
expected rural wage, w r, that is,
wr wu,
where
w u P f w f (1 P f )w v ,
or
[E f /(E f E v)]w f [1 E f /(E f E v)]w v
[E f /(E f E v)](w f w v ) w v ,
or
w r w v [E f /(E f E v)](w f w v ).

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(1)

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Therefore, for equilibrium, w v w r must hold, in the absence of relocation costs; the larger the gap between w v and w r, the greater the difference between F- and V-sector wages or the higher the proportion of urban employment in the F-sector; otherwise, given free entry into the
V-sector and no relocation costs, migration would continue indefinitely.
In reality, however, the existence of relocation costs may permit w v to
approach w r .
Assume the economy is expanding, with no change in the formal
sector wage but an increase in formal sector employment. P f thus rises,
leading to an immediate increase in expected urban income. With no
change in the rural wage, this induces additional migration, which, however, is not unlimited because the labor inflow itself produces two effects
to counteract the one just mentioned: first, the inflow will raise numbers
in the informal sector, E v, thus reducing the probability of additional formal sector employment, E f /(E f E v ); second, as E v rises, per capita income in the informal sector, w v, will tend to fall as average product declines. The migration process and the expansion of the informal sector
continue until expected urban and rural incomes are again equalized.
In summary, adopting the approach to migration discussed above,
the equilibrium employment in V at any point in time will depend on
(i) population and technology, which determine labor absorption, productivity, and incomes in agriculture; (ii) income-earning opportunities
in rural nonagriculture; (iii) the rate of growth of formal nonagricultural
employment; and (iv) incomes in the two urban sectors relative to rural
incomes.
It follows that V-sector employment can grow rapidly in a variety
of circumstances. For example, when rural income growth is low and the
sector fails to provide significant additional employment opportunities
even a small rise in urban formal sector employment can lead to rapid
rural-to-urban migration, as, for example, in Mexico in the 1970s and
1980s. Alternatively, even when rural growth is high, if employment in
the urban formal sector is expanding rapidly, rural migrants may be attracted in excess of formal sector employment opportunities, as in postreform China. In contrast, when urban formal sector employment is actually contracting, or w f is falling, as in some African countries, the
analysis would predict, ceteris paribus, a slowdown or even reversal of
migration, probably accompanied by an increase in the size of the urban
informal sector. The aggregate employment in V may thus be viewed
largely as a residual, depending on population pressure, wages, and employment opportunities elsewhere in the economy.
III. Subdividing the V-Sector
So far, like many examinations of urban employment, we have treated
the V-sector as an undifferentiated whole. However, as some of the literature has pointed out, the informal sector is likely to be heterogeneous.7

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We agree that it is essential to distinguish clearly between a more productive component of the urban informal sector and a relatively stagnant,
traditional component. Such differentiation significantly enriches our
analysis and enables us to relax previous assumptions that did not appear
to be empirically viable. Most important, a model that distinguishes between the dynamic and traditional components of the V-sector is much
more representative of real world conditions and permits us to analyze
important relations between the urban informal and formal sectors.
We thus differentiate between two major types of activity: traditional, VT , with very low capitalization, low labor productivity and low
incomes, very small size (three or fewer workers), and static technology,
often organized within the home; and modernizing, VM , more capitalintensive, usually larger in size (as many as 10 workers), more dynamic
in technology, often linked to the urban formal or F-sector. VM also tends
to use more skilled labor, some coming from F and some generated
through learning and training activities within the subsector; its labor
productivity is likely to be higher, and its entrepreneurial incomes can
be substantial. VM tends to pay competitive wages, in contrast to both F
and VT . In F, wages are influenced by government and trade union activity, in VT by income sharing within households.
It is difficult to draw precisely the dividing line between VM and
small enterprises in F. Major differences are access to formal sector
credit and being subject to government regulations, including minimum
wage legislation. In this article, we include all enterprises of 10 or fewer
workers as part of V.8
Turning to the composition of output, we assume that VT produces
consumer goods only, sold mainly to low-income urban consumers. VM
produces both consumer goods, VMC , and producer goods, VMP . VMC goods
serve both low- and middle-income urban consumers, often competing
with consumer goods produced by F as well as with imports. VMP goods
consist of intermediate products and simple capital goods that partly address the V-sectors own needs and partly respond to the demands of the
F-sector. VM output may thus be complementary to, as well as competitive with, F-goods. VM can make an important contribution to development as it offers opportunities for reasonable incomes that grow over
time, thus contributing to the growth of the economys output as a
whole. In contrast, VT acts as a low-income sponge, absorbing that
portion of the total work force in V that cannot find a place in either F
or VM .
Given this decomposition of the V-sector, our earlier migration
equilibrium formula must be modified to allow for the possibility of obtaining employment in each of the subsectors. The wages in the two subsectors are defined, respectively, as wVM and wVT; the probability of getting employment in the modernizing subsector, PVM, is assumed to be the
ratio of employment in that sector (EVM ) to total informal sector employ-

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ment, that is, EVM /EV; we now assume that there is open entry only into
VT, so the probability of obtaining employment there is (1 [P f PVM]).
This assumption appears more viable than the assumption made in our
first model, which stated that the entire informal sector was open to entry. Within VM , certain skills, as well as access to credit, capital, and raw
materials, plus the ability to secure a favorable location, are necessary to
start up certain types of activities.9
Hence, in equilibrium,
(w r) (w u),

(2)

where
(w u) P f w f P VM w VM [1 (P f P VM )]w VT,
or
(w u)[E f /(E f E v)]w f (E VM /E v)w VM {1[E f /(E f E v)E VM /E v]}w VT ,
or
[E f /(E f E v)](w f w VT) (E VM /E v)(w VM w VT) w VT.
Thus, in equilibrium, with free entry now only into VT, in the absence of
relocation costs, equilibrium requires wVT w r , the difference being
larger the larger the wage gaps between the traditional and the two modern sectors and the proportion of urban employment in the relevant sector. This reformulated requirement is more consistent with the empirical
evidence than the simple requirement that w v w r . Although it is highly
doubtful that all informal sector wages fall below rural wages, it has
been shown that wages in the traditional subsector can approach or even
fall below rural wages, especially when wages are indexed in terms of
purchasing power.10
IV. Analysis of the Functioning of the V-Sector in a Developing
Economy
The size and functioning of the two components of the V-sector need to
be analyzed within an overall macro framework. We have already discussed the determinants of the total employment size of V. As pointed
out above, the critical issue from a development perspective is the size
of the modern subsector, VM . This is in large part determined by the nature of the relationship of VM to the formal sector, on both the production
and consumption sides.
On the production side, VM meets some of its own capital and intermediate goods needs, as well as the more limited demands that emanate

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from VT, but the crucial issue is the strength of the demand from formal
sector enterprises for the intermediate and capital goods of VM , that is,
VMP. We define the linkage ratio as the level of demand for VMP generated
by a given level of F. The strength of this demand depends mainly on
the size and character of the formal sector. The larger, the faster growing, and the more competitive the F-sector, the more likely it is to seek
subcontracting relationships with VM in search of cost-cutting opportunities.
Some formal sector firms organize themselves largely through vertical integration, whereas others subcontract extensively in the Japanese
style, including to households, through the putting-out system. Some industries are technologically more suitable for subcontracting than others.
Government interventions, such as health and safety standards, can also
affect the strength of these linkagesthat is, unduly high standards tend
to diminish the procurement of intermediate products from the informal
sector. In contrast, minimum wages that are enforced in the formal sector
provide additional encouragement for subcontracting to the informal
sector.
On the consumption side, incomes generated in the formal sector
are partly spent on goods produced by the modernizing informal sector,
VMC , as well as on goods produced by the F-sector, and on imports. The
strength of consumption linkages between the two sectors again depends
on the character of the formal sector, including the distribution of the
income generated. Given that, for the most part, consumer goods produced in VM have low-income characteristics, a less unequal distribution
of income within the formal sector will generate greater demand for
these goods relative to the output of F and imports.
In essence, there exists a continuum of consumer goods of varying
characteristics, ranging over those produced by VT, VM , F, and imported
varieties. As one moves through the continuum, the characteristics of the
products tend to be increasingly chosen by people with higher incomes
so that elite households mainly consume imported and F-produced
goods, middle-income households choose between F and VMC, and lowincome households choose between VMC and VT. This is illustrated in
figure 1. The determinants of consumption include preferences among
the four types of consumer goods and the terms of trade among them.
Where VM is a small component of V, it is likely that it will be largely
composed of VMC , with relatively little VMP , since the production of modern consumer goods forms a natural progression from the products of VT.
The extent and character of the demand for VMC and VMP depend
also, of course, on the characteristics of the modernizing V-sector, both
qualitatively and quantitatively. The potential output of VMP , for example,
depends on the resources available to that subsector, including the education, training, and skills incorporated in its labor force, its technological
and entrepreneurial capacities, and its access to information, infrastruc-

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Fig. 1.Consumption equilibria. I imported consumer goods; F consumer goods produced in formal sector; VMC consumer goods produced in VM ;
VTC consumer goods produced in VT; e elite-class equilibrium choice;
m middle-class equilibrium choice; and p low-income-class equilibrium
choice.

ture, and sources of finance. At any point in time, the accumulation of


capital and skills in the sector is, naturally, the product of historical developments. Where structures and policies have favored the sector over
a relatively long period, a strong supply potential will have developed,
facilitating VMs response to new demands.
Discussion of some of the more important relationships that determine the size of VM may be further clarified by their representation in
figure 2. For the sake of simplicity, we ignore international trade; moreover, we assume that VT goods are consumed entirely by VT households.
Quadrant II depicts the production possibilities curve of the VM sector,
V MC VMP, at a point in time.11 The output of VMP is allocated in three different ways: OA is intermediate goods required by VMC ; AB is demanded
as intermediate goods by VMP itself;12 and BC is demanded by the formal
sector, according to the linkage ratio, BR, showing the demand for VMP
products exercised by the formal sector at output level OF . In accordance with our earlier discussion, the slope of the linkage ratio will vary
according to the competitiveness of the formal sector, its subcontracting

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Fig. 2.Modernizing urban informal sector

propensity, and other organizational features. The higher the linkage ratio, the lower the slope.
In this article, we take the size of the F-sector as given. Clearly it is
determined by many factors, including the rate of investment, technology
change, and human resource availabilities. If all of Fs output were directed to consumer goods, OFC would be produced (OF OFC by 45
line construction), generating a consumption possibilities curve in Quadrant I. However, in equilibrium, some of OF is likely to be devoted to
capital goods production.
Figure 2 illustrates an initial static equilibrium for the VM sector as
shown by the dotted lines. We start with an exogenously given level of
production in the formal sector, OF . Total demand for VMP from the Vand F-sectors is generated at OC, as indicated above, while the sector
also produces OD consumer goodsthat is, production equilibrium is at
P. The formal sector output, OF , is assumed to generate consumer
goods output of OE, shown on the horizontal axis of figure 2. Consumers
have a choice between VC and FC. At relative prices t t, and the consumer preferences shown, consumers settle at C.
The relative prices of VC and FC are partly determined by the usual

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market conditions and partly by policy interventions, mainly focused on


the F-sector; these may include subsidies and price controls, import restrictions, production regulations, licensing, labor market restrictions including minimum wages, and so on, all of which affect relative prices in
one direction or another.
The framework developed above allows us to consider the role of
the informal sector over time. We explore alternative dynamic patterns
in the next section.
V. Alternative V-Sector Paths in a Dynamic Context
The path of the informal sector over time depends on changes in the critical dimensions identified above:
1. We have already discussed the determinants of the total size of
the informal sector labor force, Ev, in terms of developments in the rural
economy, population growth, and formal sector wages and employment
growth. The smaller the resulting Ev, relative to the economys total labor force, the more likely that its dynamic component, VM , forms a larger
proportion, and its traditional component, VT, a smaller proportion, of the
total. Over time, VM firms may graduate into F as they expand and upgrade their technology, merging into the medium industry component of
the urban formal economy, as happened historically in Japan. Eventually,
as labor surplus is eliminated, V will be largely absorbed by F; if there
is a vigorous urban formal sector that provides all the employment opportunities required, there is no particular need for the continued existence of any informal sector.13
2. The rate of growth of the formal sector represents an important
dynamic determinant of the system. If F grows quickly, ceteris paribus,
it generates more demand for the products of VM , both VMC and VMP .
3. The pattern of F growth determines the extent to which F seeks
linkage opportunities with VMP. In some circumstances, F becomes increasingly competitive with VM , destroying opportunities there; this
could be due to changes in relative efficiency or government policy, for
example through a change in the minimum wage. The linkage ratio may
consequently change over time, depending on the extent and nature of
formal sector growth, changing competitive pressures, as well as the
evolving supply-side capabilities of VMP .
4. The size of the VM sector is highly responsive to changes in demand, since typically it can readily increase its output by drawing on
unused capacity, securing extra labor from VT and entrepreneurs from F.
Hence over time, in favorable conditions (illustrated in fig. 3), there is
likely to be an outward shift of the production possibilities curve, VMC
VMP, in Quadrant I, with an increase in the total resources devoted to the
sector, along with learning and technology change in both processes and
products.
5. Changes in consumption choices also affect the development of

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Fig. 3.Favorable dynamic case

VM . For any change in the income level (with a given distribution of that
income), a new consumption equilibrium will be established along the
income-consumption curve. As per capita income rises, one would expect consumption to shift away from VT and toward VMC and FC. Changes
in income distribution, for equivalent rates of income growth, will also
have the effect of altering demand patterns. As previously discussed, a
more equal distribution of income is likely to favor VMC relative to FC.
Quadrant I in figure 3 shows a possible path of demand over time, C iC t.
6. Finally, relative prices may change due to policy changes as well
as to changes in underlying market conditions.
In tracing the impact of these various types of change on VM, it is
helpful to contrast three cases:
Case 1all the changes work in the direction of enhancing the role
of VM over time: more rapid growth of F; more equal income distribu-

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tion; factors conducive to a more favorable linkage ratio, including more


competition within the F-sector and organizational forms favoring subcontracting; and technological progress and capital accumulation in VM .
Case 2VM grows even when the F-sector is oligopolistic, has
fewer subcontracting relationships, is high-cost and growing only moderately, because it represents a low-cost alternative to the F-sector in the
production of both producer and consumer goods. But VM is likely to be
less buoyant than in case 1, since the overall macroeconomic conditions
are less favorable.
Case 3there is stagnation in VM , accompanying stagnation in F;
this arises because of failure with respect to both demand and supply
conditions in VM , with slow overall growth or unequal income distribution and a weak linkage ratio, all leading to weak demand for the products of VM , while supply deficiencies make it difficult for VM to provide
effective substitutes for the products of F.
Case 1 is likely to be associated with the fastest growth of VM, which
will gradually absorb all the labor in V. We have illustrated this case in
figure 3, showing increased output of both producer and consumer goods
by the VM sector, with increased consumption of both FC and VMC goods.
The new linkage ratio, indicated by BtRt, is stronger than the earlier one,
indicated by BiRi. In this favorable case, we would expect VM eventually
to crowd out VT and, later, F to crowd out V as labor surplus disappears
from the economy as a whole. The informal sector can here appropriately
be described as having played an evolutionary role.
In contrast, with more moderate growth of VM , as in case 2, VT will
continue to play a significant role. In the third, or least favorable, case,
we would expect VT to increase in absolute and relative size as a consequence of the deficiencies of both F and VM and to continue to be an
involutionary sector, offering stagnant or even falling incomes over
time for ever-larger numbers.
Case 1 is clearly the preferable model; VM plays a dynamic role in
a complementary relationship to F, providing low-cost inputs and consumer goods as well as generating productive employment opportunities.14 However, where the F-sector is less dynamic (case 2), the V-sector
may still play a valuable role in providing some very-low-income earning opportunities for the very poor.
VI. Some Empirical Evidence
By its nature, the informal sector is rarely captured in official statistics
and one generally has to rely on numerous ad hoc surveys, often partial
and unrepresentative, to document its development. Moreover, such surveys often adopt different definitions of the sector.
Estimates of the size of the urban informal sector across the developing world indicate that in most countries it is substantial, in many
cases accounting for over half the urban workforce, with the highest pro-

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portion in some African countries. Moreover, data over time show a rise
in almost all LDCs during the 1970s and 1980s.15
Most studies do not attempt to distinguish between the VM and VT
components of V. Our analysis suggests some criteria by which we can
make rough estimates of the VM component for different countries and
over time: (i) some production of intermediate, capital, or modern consumer goods; (ii) some production linkages with the formal sector;
(iii) worker incomes below the formal sector minimum wage but above
rural incomes; (iv) entrepreneurial incomes above or comparable to formal sector wages; (v) modest but significant capital per headfor example, above $200; (vi) some deployment of skills; and (vii) predominantly
family enterprises of up to 10 workers, including nonfamily members.
In contrast, suggested characteristics of the traditional informal sector VT are (i) production that consists almost exclusively of simple consumer goods and services; (ii) absence of significant linkages with the
formal sector; (iii) incomes typically substantially below formal sector
minimum wages; (iv) very low capital per worker; (v) insignificant use
of skills; (vi) exclusively composed of family workers, typically three or
less.
The VM characteristics are likely to be found in manufacturing, construction, and the transport sector, as well as in some services (e.g., fax,
telephone, repairs). VT, in contrast, tends to be concentrated in distributive trades and personal services but also includes artisanal production.
Manufacturing comprised approximately 20% and construction plus
transport another 10% of total V-sector employment in the 1970s in
Latin America. Data for Africa and Asia show extremely wide variations
in the share of manufacturing, but there are severe problems in the comparability of definitions and coverage. The application of some of our
proposed criteria differentiating VM and VT is presented in table 1. In
most regions there exist some VM activities, with metal-working industries invariably showing such characteristics. More modernizing elements are in evidence in the three Asian countries than in the African
countries. For Latin Americafor example, Uruguay and Brazilwe
have evidence of footwear as a clear case of VM , linked to the formal
sector via subcontracting relationships, with F purchasing nearly all of
VMs output.16
Following our analysis above, another way to separate the two subsectors of V is by examining the markets that are being supplied. Some
studies, summarized in table 2, indicate that consumer goods sold to
households form by far the largest portion of total informal sector sales.
Significant producer goods linkages (with VMP ) appear to be present in
Indonesia and Thailand;17 the Bamako, Yaounde, and Buenos Aires surveys also show significant, although somewhat weaker, linkages with the
formal sector, on both the production and consumption side. But we
should note that the sample selections in Thailand, Bamako, and

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TABLE 1
Characteristics of Informal Sector Activities
Entrepreneurs Workers
Income
Income Technology Credit Skills Linkages

Indonesia:
Sarong
Textile handlooms
Rattan furniture
Batik
Footwear
Metal working
Homeworkers
Roof tile manufacture
Philippines:
Homeworkers
Jeepney operation
Trimobile operation
Trimobile manufacture
and repair
Manual skate
operation
Thailand, Bangkok
Kenya, small business
Nairobi, informal sector
Mathare valley, informal
sector
Tanzania, small
enterprise
Rwanda, metal workers
Mali, metal workers
Ecuador, metal workers
Peru, metal grills

N.A.

N.A.

*
N.A.

N.A.
N.A.

**

N.A.
N.A.

N.A.

Some

N.A.
N.A.

Sources.For data on the manufacture of sarongs, textile handlooms, rattan furniture, batik, and footwear and metal working in Indonesia, see I. Smith, R. Saptari, and
X. Maspiyati, Flexible Specialization and Small-Scale Industries: An Indonesian Case
Study, World Employment Programme Working Paper no. 245 (Technology and Employment Programme, ILO, Geneva, 1994). For data on homeworkers in the Philippines,
see Lucita Lazo, ed., Homeworkers of Southeast Asia: The Struggle for Social Protection
in the Philippines (Geneva: ILO, 1992). For data on the manufacture of roof tiles in Indonesia, see M. Harper and T. Soon, Small Enterprises in Developing Countries: Case Studies and Conclusions (London: Intermediate Technology Publications, 1979). For data on
Jeepney operation; trimobile operation, manufacture, and repair; and operation of manual
skates, see R. B. Ocampo, Rural Transport in the Philippines: Jeepneys, Trimobiles, and
other Simple Modes in Two Bicol Towns, World Employment Programme Research
Working Paper no. 102 (ILO, Geneva, 1982). For data on informal sector activities in
Bangkok, metal workers in Rwanda and Mali, and the manufacture of metal grills in Peru,
see C. Maldonado and S. V. Sethuraman, eds., Technological Capability in the Informal
Sector: Metal Manufacturing in Developing Countries (Geneva: ILO, WEP, 1992). For
data on small businesses in Kenya, see Jeffrey Ashe, The PISCES II Experience, vol. 1,
Local Efforts in Micro-Enterprise Development, and vol. 2, Case Studies from
Dominican Republic, Costa Rica, Kenya and Egypt (Washington, D.C.: U.S. Agency for

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273

TABLE 1 (Continued )
International Development, 1985). For data on the informal sector in Nairobi, see W. J.
House, G. K. Ikiara, and D. McCormick, The Promotion of Self-Employment and
Small-Scale Enterprises in Urban Kenya: A Case Study. Labour Market Analysis and
Employment Planning Working Paper no. 45 (ILO, WEP, Geneva, 1990). For data on the
informal sector in the Mathare valley, see F. M. Mwega, Informal Enterpreneurship in
an African Urban Area, Small Enterprise Development 2, no. 3 (1991): 3337. For data
on small enterprises in Tanzania, see M. S. D. Bagachwa, A. H. Sarris, and P. Tinios,
Small Scale Urban Enterprises in Tanzania: Results from a 1991 Survey, Working Paper no. 44 (Cornell Food and Nutrition Policy Program, Ithaca, N.Y., 1993). For data on
metal workers in Ecuador, see G. Farrell, Self-Employment in Ecuador and Mexico,
Labour Market Analysis and Employment Planning Working Paper no. 42 (ILO, WEP,
Geneva, 1990).
Note.Income: entrepreneurs income at or above average wages in formal
sector; below; workers income income at or above minimum wages in formal
sector; below; technology: moderate or high technology used; low technology; credit: some access to formal sector credit; no access; skills:
moderate skills or more; only basic skills; linkages: significant forward linkages with the formal sector; insignificant linkages.
* Usually from subcontracting firms in the formal sector.
Mainly from government programs designed for small enterprises.
Working capital provided by traders.
** Thirty-six percent of enterprises received credit from buyers.
Workers with skills mainly came from the formal sector.
Ninety percent of output goes to private house building.

Yaounde were biased that is, they focused on the more modern informal sector activities.
The studies in Indonesia and Thailand break down consumer goods
markets according to income level. Only approximately one-tenth of
consumption sales are to low income groups, while the rest goes to
middle-income consumers and government officials. This evidence of a
sizeable VMC , along with VMP, suggests the presence of a substantial VM
subsector in both economies.
In Africa, the high proportion of the sector accounted for by VT is
indicated by estimates that 60% of informal sector customers were lowincome families not engaged in F.18 Backward linkages to F seem to be
prominent, with producer goods, spare parts, and so forth in V coming
from F. It is estimated that 40% of informal sector inputs are procured
from the formal sector. In all regions, another important linkage is via
individuals who, having acquired skills and experience in the formal sector, move into the informal sector as entrepreneurs and skilled laborers.19
Country Comparisons
Finally, the relevance of our analysis is demonstrated by contrasting the
role of the informal sector in two Southeast Asian countries, Thailand
and the Philippines, between 1960 and 1990. These represent examples,
although not extreme ones, of differing development patterns, following
the favorable or unfavorable typologies suggested earlier. Thailand had

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Economic Development and Cultural Change


TABLE 2
Markets Served by the Informal Sector
Sales to
Households
(%)

Place and Date


Asian studies:
Jakarta (75)
Jakarta* (90)

Yogjakarta* (90)

Bangkok (89)
Informal, 04
Small, 520
Bangkok (80)
Manila (76)
Indian National Capital Region
(NCR) (87)
Four Indian cities (86)
African studies:
Freetown (76)
Lagos (76)
Kano (76)
Nigeria
Ghana (three cities) (8889)
Kumasi (75)
Ghana
Bamako, Mali (78)
Yaounde, Cameron (78)
Dakar, Sudan (88)
Khartoum, Sudan (76)
Latin American studies:
Campinas, Brazil (76)
Buenos Aires, Argentina (80)

87
66
Low: 6
Mid: 15
Government
officials: 45
36
Low: 2.5
Mid: 17
Government
officials: 16

Informal
Enterprises/
Retailers
(%)

Formal
Enterprises
(%)

12/13
1.6

Virtually nonexistent
32

64

68 (poor: 17)
60 (poor: 10)
N.A.
Most

8
N.A.
N.A.
N.A.

N.A.
10
20**
N.A.

N.A.
94

Substantial Negligible
4
2

Most
87
87

9
10.5

Negligible
N.A.

N.A.
72

15.5

3.5
Negligible

83 (30)
95 (35)
55
N.A.

17***

5***
Significant Significant
N.A.
1

88
75

12
15

10

Sources.H. Lubell, The Informal Sector in the 1980s and 1990s (Paris: OECD
Development Centre, 1991); A. Amin and Sudarsono, The Urban Informal Sector in Indonesia (New Delhi: ILO, ARTEP, 1993); H. Romijn, Dynamism in the Informal Sector
in a Fast Growing Economy: The Case of Bangkok (New Delhi: ILO, ARTEP, 1993);
and A. Aboagye and P. Yankson, Employment in the Urban Informal Sector in Ghana
(Addis Ababa: JASPA, ILO, 1992).
* Producer goods.
Six sectors, selected as dynamic.
Sales to medium and large enterprises.
** Subcontracting.
Small subset of the informal sector, defined to include only modern activities
(less than 10% of the total enterprises enumerated as in the informal sector.
Includes sales to both households and informal enterprises. Figures in parentheses
are sales to government officials.
*** Includes formal sector commerce, modern sector enterprises, and government.
Data on subcontracting arrangements only; formal sector includes government.

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275

a thriving VM subsector, with rapid F-focused industrialization that raised


the demand for VM products, gradually eliminating the labor surplus and
thus VT . The relatively poor performance of the Philippine economy, by
comparison, led to the emergence of a large VT subsector, although there
is also evidence here of elements of a small modernizing VM . Thailand
came close to fitting our case 1 (though income distribution was not very
egalitarian), while the Philippines fell somewhere between cases 2 and
3. This contrast is brought out below, first at the macrolevel and then in
terms of the differing performance of the V-sector.
Philippines and Thailand: Macrocomparisons
The Philippines and Thailand grew quite rapidly in the 1960s and 1970s
in terms of both agriculture and nonagriculture, but Thailand did significantly better. The largest divergence in performance, however, came in
the 1980s: Thailands growth accelerated, whereas the Philippine economy stagnated following the debt crisis (table 3). The industrial (F-sectors) growth rate in Thailand was about 9% per annum in the 1970s and
it increased to more than 10% per annum in the 1980s. Philippine industrial growth was similar for 196580 (at 7.7% per annum) but it declined
precipitously in the 1980s to 0.8% per annum.
The high growth rate of output in the F-sector in the 1970s in both
countries was accompanied by rapid growth in formal sector employment, with Thailand in the lead (see table 4). Growth in F-sector employment continued to outpace labor-force growth in Thailand in the 1980s
but declined in the Philippines to less than 2%. Hence employment
growth in F provided an incentive for rural-to-urban migration in both
countries in the 1970s; the incentive was maintained in Thailand in the
1980s but was seriously weakened in the Philippines.

TABLE 3
Growth in the Philippines and Thailand, 196590 (%)
Philippines

GDP
Agricultural output
Industrial output
GDP per capita
Agricultural labor productivity
Manufacturing labor productivity

Thailand

196580

198090

196580

198090

5.7
4.5
7.7*
2.0
2.7
3.5

1.7
2.3
.8
1.4
.3
1.7

7.0
5.4
8.8*
4.1
3.2
2.3

7.9
3.9
10.3
5.6
.9
5.7

Sources.World Bank, World Tables 1976, 1994; UN Statistical Yearbook 1974,


1982, 1992; UN Industrial Commodity Statistics Yearbook 1970, 1975, 1982, 1990; Food
and Agriculture Organization (FAO) Production Yearbook 1972, 1980, 1990.
* 196780.
197280.

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Economic Development and Cultural Change


TABLE 4
Migration and Urban Employment
Philippines Thailand
(196580)

Annual rate of migration as % of


urban population
Rate of growth, total urban population (% per annum)
Rate of growth, industrial employment (% per annum)

Philippines Thailand
(198090)

1.0

1.8

1.5

2.6

3.1
1.5
(6680)

2.8
6.9
(7280)

4.9
.6
(8088)

4.4
0.2
(8288)

Sources.World Urbanization Prospects, U.N. 1990; ILO, Yearbook of Labour


Statistics, 1973, 1980, 1990.

The other important feature that determined the pressure for migration was the intersectoral wage gap. For 197980, unskilled workers average wages in Bangkok were 53% above the daily agricultural wage; in
contrast, in the Philippines the wage gap was much larger, as wages in
manufacturing were four times those in agriculture in 1985.20
Total levels of urbanization were significantly lower in Thailand in
1965, at 13% of the total population, than in the Philippines, at 32%,
although caution is needed. Because of differences in definitions, the rate
of urban migration appears to be consistently higher and accelerating in
Thailand (see table 4).
In Thailand, and in the Philippines until 1980, the rate of rural-tourban migration was broadly in accordance with our earlier analysis
that is, as a response to the increase in F-sector employment opportunities in the presence of a significant wage gap. In Thailand, which experienced somewhat more rapid migration, it appears that a lower wage gap
was overcome by the higher rate of growth of employment opportunities
in F and less open urban unemployment.21 In the 1980s, migration accelerated in Thailand as employment growth in F accelerated; however, in
contradiction to expectations, it also increased in the Philippines despite
near stagnation in F-sector employment and a probable reduction in the
intersectoral wage gap, which, nonetheless, remained larger than that in
Thailand.
It is possible to deduce differences in the pattern of overall V-sector
employment growth in the two economies. In both, the rate of growth
of the total urban population exceeded the rate of growth of industrial
employment (our proxy for the F-sector) in the 196580 period, with E v
growing somewhat faster in the Philippines.22 In the 1980s, in sharp contrast, growth in F-sector employment exceeded the growth of the urban
population in Thailand, suggesting a decline in E v , while in the Philippines the growth in E v seems to have accelerated as migration continued,
while F employment growth stagnated.

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277

TABLE 5
Some Characteristics of Investment, Philippines and Thailand
Gross Domestic Saving as a % of Gross Capital Formation
Philippines

Thailand

1970

1980

1990

1970

1980

1990

113.5

93.5

80.5

76.4

79.2

82.6

Foreign Direct Investment Stocks by Country of Origin (%)


(cumulative % from 1970 onward)
Philippines

United States
Japan
Europe
Other
Total

Thailand

1975

1980

1987

1975

1980

1987

48.4
23.5
9.9
18.2
100.0

54.6
16.8
10
18.6
100.0

64.3
13.3
12.9
9.5
100.0

39.9
26.4
12.6
21.1
100.0

32.3
29.1
15.9
22.7
100.0

32.8
29.0
14.5
23.7
100.0

Sources.UN Statistical Office, Yearbook of National Accounts Statistics, 1980,


1990. Yamazawa and Lo, eds., International Financial Statistics (IMF, Bureau of Statistics, 1990). Evolution of Asia-Pacific Economies: International Trade and Direct Investment (Kuala Lumpur: Asian and Pacific Development Center, 1993).

Turning to the conditions relevant to the development of VM during


the 1960s and 1970s, the overall growth of F was fairly similar in the
two countries. In the 1980s, however, the more rapid growth in Thailands F-sector was more favorable to the growth of both components
of VM , VMP, and VMC . The characteristics of F differed markedly as well.
Philippine industry was much more concentrated, with an overall concentration ratio of 72.6 (in 1987) compared to Thailands 29.2 (in
1984).23 Domestic investment, likely to be more responsive than foreign
investment to subcontracting opportunities, became relatively more important over time in Thailand, less important in the Philippines (see table
5). Moreover, as also shown in table 5, cumulative Japanese foreign district investment (FDI), favoring joint ventures, trading companies, and
subcontracting, was much more prominent in Thailand, while U.S. FDI,
favoring wholly-owned subsidiaries and vertical integration, dominated
in the Philippines. These differences suggest more favorable demand
conditions for VM that is, a higher linkage ratioin Thailand.
On the consumption side, estimates of income distribution suggest
that there was consistently less income inequality in Thailand, although
there was some worsening over time in both Thailand and the Philippines (see table 6). Following our earlier discussion, the more equitable
distribution in Thailand implies conditions favoring VMC , relative to VT
and FC .

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278

Economic Development and Cultural Change


TABLE 6
Income Distribution in the Philippines
and Thailand

Share of lowest 40%:


1970s
1980s
Gini coefficient:
1961
1962
1969
1971
1977
1986
1991

Philippines

Thailand

11.7 (1971)
13.0 (1988)

15.2 (1975)
15.5 (1988)

.50

.49
.50

.53

.41
.43

.47

Source.World Bank, World Development Reports (Oxford University Press, 197797).

All in all, it seems that conditions have been more favorable to VM


in Thailand throughout the period, but especially in the 1980s. Given the
higher growth of E v in the Philippines, particularly in the 1980s, suggested by the data, we can conclude that VT is likely to have formed a
higher proportion of the V-sector in the Philippines than in Thailand. Below we will consider direct evidence about the development of the Vsector and its subsectors in the two countries.
The Development of the Informal Sector in the Philippines
and Thailand
For the Philippines, total employment in the unorganized sector is estimated to have grown substantially during 196171, though it remained
constant as a proportion of nonagricultural employment, at about 61%;
estimates for 1983 show the same ratio.24 The unorganized sector here
does not include registered small-scale activities, which form part of our
definition of the V-sector. In addition, about a million people were employed in small registered establishments in 1983, rendering total employment in the informal sector, as defined here, at 73% of total nonagricultural employment. There is evidence that employment in small
manufacturing enterprises grew rapidly during the 1960s (table 7), considerably faster than it did in the large scale sector but that the numbers
of employed in the household sector stagnated. Consequently, the informal sector as a whole (small establishments plus households) grew only
slowly. By 1972, households were estimated to account for 51.3% of total employment in manufacturing, small establishments for 15.4%, and
establishments with ten or more workers for 33.1%, compared with
65.0%, 9.4%, and 25.6%, respectively, in 1961. This relative decline of
the household sector suggests that VM was growing relative to VT within

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279

TABLE 7
Estimated Annual Employment Growth in Manufacturing,
the Philippines, 196172 (%)

Food
Textiles
Clothing and footwear
Wood and cork
Furniture
Metals and machinery
All manufacturing

Households

Establishments
with 10
Workers

All
Informal

Establishments
with 10
Workers

21.6
1.1
0
N.A.
1.2
High
.2

7.3
8.7
7.9
12.0
7.7
3.8
7.1

3.4
1.3
1.4
N.A.
3.0
N.A.
1.3

4.6
6.7
.8
6.2
4.4
5.1
4.8

Source.D. Anderson, Small Industry in Developing Countries: A Discussion of


Issues, World Development 10, no. 11 (1982), table 8.

manufacturing during the 1960s. This is also confirmed by the change in


the composition of the sector between 1960 and 1975 (table 8)that is,
a fall in the share of food and beverages and a rise in chemical products,
metalworking, and machinery, which together accounted for over a quarter of employment in the sector by 1975. Hence, over this period it appears that the relative importance of the informal sector in total employment was declining and that its modernizing portion was growing.
Data for the first half of the 1980s suggest a reversal of these favorable trends, with a rise in the overall size of the informal sector and of
TABLE 8
Philippines: Manufacturing
Employment by Industry Groups in
the Informal Sector (%)

Food and beverages


Clothing and footwear
Wood products
Printing
Leather
Chemical products
Metal working
Machinery
Other
Total

1960

1975

19.7
48.6
2.9
0
0
0
2.7
.2
25.9
100.0

11.3
45.3
8.8
1.6
.4
3.6
5.2
19.1
4.7
100.0

Source.Philippines Industrial Development Strategy and Policies (Washington, D.C.: World Bank, 1980).
Note.Definition of the informal
sector here is fewer than five workers,
but there may be additional family members as employees.

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280

Economic Development and Cultural Change

its VT component. This is indicated by a decline in the share of manufacturing in total informal sector employment (from 26.7% in 1980 to
19.8% in 1985), a rise in the share of sales workers and a decline in
production and transport workers, a sharp rise in the proportion of selfemployed workers (from 10.6% to 21.5%), as well as an increase in unpaid family workers, while the share of wage and salary workers declined. Real wages fell among all groups of workers during these years
but considerably more among own account workers than among wage
and salary workers. Within the wage and salary category, real earnings
fell most sharply (197883) in manufacturing in small establishments.25
During these years of severe macroeconomic recession, the total size of
the informal sector grew as employment in F fell, while the VM share
was falling and the VT share rising. Although it is difficult to differentiate
precisely between VM and VT activities, about one-fifth of the sector in
Metro Manila appeared to be in the VM category in 1987 (see table 9).
In Thailand, it appears that the V-sector accounted for about half of
total urban employment in the mid-1980s. The proportion of employment accounted for by the self-employed and family members declined
from the early 1970s, while the proportion in paid employment in small
enterprises rose (table 10). Employment in the informal sector as a proportion of total urban employment is estimated to have declined in the
1980s, with the rapid growth in F-sector employment.26 But there was a
rise of small-scale firms (fewer than 10 employees) within the F-sector,
from 63% of enterprises in 1980 to 77.4% in 1988. These data, of course,
exclude the many unregistered activities, so that the aggregate significance of the informal sector is actually much greater. Thus, the evidence
indicates that the modernizing component of the V-sector was rising and
the traditional component falling, from the 1970s through the 1980s.27
A more systematic comparison between Manila and Bangkok is
possible on the basis of two comprehensive and representative surveys
carried out in Manila in 1987 and in Bangkok in 1986.28 In both cases,
a census was taken of all informal activities in several districts and a
subsample selected for further investigation. In the case of Manila, enterprises with fewer than 10 workers were surveyed. In the case of Bangkok, self-employed entrepreneurs were chosen, with an upper limit of 10
hired workers and no limit on the number of family workers. Hence, the
Bangkok survey was designed to include somewhat larger enterprises
than was the Manila survey.
A comparison of the industry composition of both cities (table 11)
shows considerable similarity between them, although Bangkok has a
larger manufacturing component (17% of all enterprises, compared to
13% in Manila) and a smaller trading component, a feature likely to be
associated with greater VM . Other features of the two informal sectors
(table 12) also convincingly point to the conclusion that there is a substantially larger element of VM in Bangkok, especially in its manufactur-

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281

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with telephone
with more than three workers
K/L ratio P10,000
productivity per worker P5,000
skilled workers
employing nonrelations
selling to rich households, enterprises, foreign, or government

17.8
25.6
20.2
10.2
31.4
35.3
23.6
23.7

15.9
18.8
34.4
27.1
9.3
19.6
8.6
19.1

Selling
9.5
13.2
15.0
8.0
22.0
30.5
19.7
16.8

Repairs
5.1
5.1
84.3
0
48.4
14.5
N.A.
26.3

Transport
19.6
19.5
0
21.3
14.3
21.3
31.2
18.2

Construction

Source.R. Alonzo and M. Alcesitis Abrera-Mangahas, The Informal Sector in Metro Manila: Findings from a Recent Survey (New Delhi: ILO,
ARTEP, 1994), chap. 2.

Percentage
Percentage
Percentage
Percentage
Percentage
Percentage
Percentage
Average

Manufacturing
and Crafts

Characteristics Differentiating VM and VT across Industries, Metro Manila, 1987

TABLE 9

282

Economic Development and Cultural Change


TABLE 10

Thailands Informal Sector: Aggregate Estimates as Percentage of Total


Urban Employment

Unpaid family workers plus self-employed:


1971
1987
Paid workers in small enterprises:*
1980
1984
1988
Paid workers,* unpaid family workers,
self-employed:
1984
1987
Total informal sector:
Early 1970s
Early 1980s
Mid-1980s

Bangkok

All Urban Thailand

32.1
27.2

43.3
33.4

9.8
10.7
15.0

50.0

40.0
(all municipal)
48.4

43
49
34

Sources.Mostly derived from N. Poapongsakorn, The Informal Sector in Thailand, in The Silent Revolution: The Informal Sector in Five Asian and Near Eastern
Countries, ed. A. L. Chickering and M. Salahdine (San Francisco: International Center
for Economic Growth, 1991), pp. 10544. For data on unpaid family workers in 1971,
see National Statistical Office, Report of the Labor Force Survey (Bangkok: National Statistical Office, 1971). For data on unpaid family workers in 1987 and paid workers, unpaid family workers, and the self-employed in 1987, see National Statistical Office, Report of the Labor Force Survey (Bangkok: National Statistical Office, 1987). For data on
paid workers in small enterprises in 1980, see T. Somsak and L. Chesada, Small Scale
Manufacturing Enterprises in Bangkok (Bangkok: Thammasat University, 1983). For data
on paid workers in small enterprises in 1984, see A. Kuroda and S. Kasajima, Development Strategies for Small and Medium Scale Industries in Thailand (Bangkok: Ministry
of Industry, Small/Medium Industry Promotion and Finance Project, 1987). For data on
these workers in 1988 and paid workers, unpaid family workers, and the self-employed
in 1987, see Department of Labor, Labor Statistics (Bangkok: Department of Labor,
1988). For data on the self-employed, see National Economic and Social Development
Board, Bangkok and ILO, Report of the National Seminar on the Urban Informal Sector
in Thailand (Bangkok, 1988). For data on paid workers, unpaid family workers, and the
self-employed in 1984, see S. Chalangphob, The Thai Labour Market (paper presented
at the Conference on Thai Studies, Australian National University, Canberra, July 36,
1987). For data on the total informal sector, see United Nations, Economic and Social
Survey of Asia and the Pacific (New York: United Nations, 1991).
* In all enterprises with fewer than 10 workers.

ing component. Manufacturing enterprises in the informal sector have almost twice as many employees per enterprise, hire twice the proportion
of nonrelations, sell a much higher proportion of their output to enterprises or government and a much smaller proportion to poor consumers.
They also appear to have much higher levels of capital, though one needs
to be especially cautious here, because the definitions differ. The same
differences obtain, but less sharply, outside manufacturing.
In terms of our earlier criteria, the one characteristic that seems to

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283

TABLE 11
Industrial Composition of Informal Sector,
Manila and Bangkok, 198687
Manila
Ready-made foods
Other
Total trading
Garments
Metal products
Leather products
Food and beverages*
Furniture
Jewelry
Other
Total manufacturing
Personal services
Repair services
Transport
Construction
Professional services
Other services

11.3
58.5
69.8
7.2
1.2
.3
1.6
.4

2.3
13.1
5.3
3.9
4.6
2.1
1.1

Bangkok
12.5
51.9
64.4
8.6
1.6
.6
.7
.6
2.6
2.3
17.2
6.8
2.7
1.7
.6
.1
5.9

Sources.R. Alonzo and M. Alcesitis AbreraMangahas, The Informal Sector in Metro Manila:
Findings from a Recent Survey (New Delhi: ILO,
ARTEP, 1994), chap. 2; P. Phongpaichit, P. Charsombut, M. Muqtada, and H. Romijn, Urban SelfEmployment in Thailand: A Study of Two Districts in Metropolitan Bangkok (New Delhi: ILO,
ARTEP, 1988).
* Includes only bakeries and cakehouses.
Wood products.

contradict these conclusions is education, with Bangkoks informal


workers, especially in manufacturing, showing much lower levels of education than those in Manila. However, several writers have concluded
that human capital variables, including education, are less important in
the informal than in the formal sector.29 Education levels are generally
far lower in Thailand (secondary enrollment is less than half that of the
Philippines) so that in the Philippines a smaller proportion of those educated are likely to be absorbed by the formal sector.30
The limited data thus suggest that in both countries there are signs
of a modernizing subsector, but VM is proportionately much larger in
Thailand. During the 1980s, there appears to have emerged a striking divergence between developments in the informal sectors of the two countries, reflecting differences in macroeconomic performance. In the Philippines, the traditional informal sector grew under the impact of poor
macroperformance, while the size of the modernizing subsector declined.
In Thailand, with rapid formal sector growth, the VT component seems to
have fallen, while the VM component rose.

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TABLE 12

Comparison between the Informal Sectors of Bangkok and Manila, 198687


Manufacturing
Average no. of workers
per enterprise:
Bangkok
Manila
Percentage selling to firms
or governments:
Bangkok
Manila
Percentage selling to poor
households:
Bangkok
Manila
Percentage employing nonrelations:
Bangkok*
Manila
Percentage of workers
with more than elementary education:
Bangkok
Manila
Percentage of enterprises
with capital assets
100,000 pesos or
baht:**
Bangkok (funding at
start of enterprise)
Manila (replacement
costs of assets)

Selling

Transport

Repairs

4.3
2.6

2.8
2.5

1.6
1.5

2.7
2.1

68.6
15.9

18.6
7.9

12.5
N.A.

13.3
6.6

3.8
39

33.4
50.6

33
N.A.

15.9
21.6

74
35.3

35
19.6

60
14.5

85
30.5

11.6
72.2

39.2
58.5

80
93.5

67
57.5

12.3 (8.2)

20.6 (19.1)

18.9 (12.6)

44.8 (34.5)

6.6

6.8

14.9

Sources.R. Alonzo and M. Alcesitis Abrera-Mangahas, The Informal Sector in


Metro Manila: Findings from a Recent Survey (New Delhi: ILO, ARTEP, 1994), chap.
2; P. Phongpaichit, P. Charsombut, M. Muqtada, and H. Romijn, Urban Self-Employment
in Thailand: A Study of Two Districts in Metropolitan Bangkok (New Delhi: ILO,
ARTEP, 1988).
* In the Bangkok survey the distinction is between hired workers and unpaid
family workers, so it is possible the former might include some paid family workers. In
Manila, the classification is no relation.
Excludes jewelry.
Data incomplete.
** One hundred thousand pesos was approximately equal to US$4,800 at the January
1986 exchange rate; 100,000 baht was approximately equal to US$3,450 at the January
1986 exchange rate.
Bracketed figures for Bangkok are for a higher cutoff point (i.e., more than
200,000 baht [approximately $6,900]).

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Gustav Ranis and Frances Stewart

285

VII. Conclusions
In this article we have demonstrated the importance of placing the analysis of the urban informal sector within a macroeconomic framework and
dividing the sector into two components, modernizing and traditional.
The balance of income-earning opportunities in the rural and urban areas
is an important element in explaining the growth of employment in V.
Migrants are attracted to the cities by gaps in earning opportunities between the rural economy and the urban formal sector. Employment in V
grows when F-sector employment expands more slowly than the growth
of the urban labor force.
Workers in V may find themselves either in the stagnant VT or the
more dynamic VM subsector. How employment is divided between the
two depends mainly on the nature and extent of links between F and VM .
These links depend partly on the nature of F (i.e., its growth rate, how
competitive it is, and how far it is organized to seek subcontracting relations with VM ) and partly on the overall distribution of urban incomes
and on supply conditions in V. In general, a dynamic and competitive F
will contribute to the rapid expansion of VM . The faster VM expands, the
fewer people there are in VT for a given size of V.
Returning to the issue as to whether V is a sponge or a dynamic
contributor to development, our analysis suggests that it assumes both
roles, the former describing VT , the latter VM . Nonetheless, although VT
is a residual, it also serves an important function by providing a source
of subsistence, even if at a very low level, for the urban poor.
The VM sector is likely to be small in the early stages of development and to grow as the economy expands. Eventually, once labor surplus is exhausted, VT disappears and VM becomes increasingly indistinguishable from the small- and medium-scale enterprises of F.
Comparison of the cases of the Philippines and Thailand over the
196090 period illustrates the relevance of our analysis of the role of the
urban informal sector. In Thailand, the F-sector grew faster over the period and showed other characteristics more favorable to links with VM ,
including the extent of competitiveness and other organizational features,
while income distribution was less unequal than in the Philippines. Differences were particularly marked in the 1980s, when VM rose and VT fell
in Thailand, with a rapid growth in F, while in the Philippines the reverse occurred as the F-sector stagnated.
From a policy perspective, our analysis suggests the following conclusions: (1) promotion of rural development will tend to reduce the
growth of employment in V and may also facilitate the growth of F; (2)
similarly, the avoidance of large gaps in rural and urban unskilled wages
is likely to reduce the incentive for people to migrate; (3) policies leading to a more dynamic, competitive, and egalitarian F-sector will also
promote VM ; and (4) policies to support appropriate technology develop-

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286

Economic Development and Cultural Change

ment and dissemination, infrastructure, and credit institutions that reach


VM will facilitate a VM supply response to the demands of a growing F.
Notes
* We are grateful to Kate Raworth, Niall Kenward, and Michael Davidian
for research assistance, to this journals anonymous reviewers, and to Giorgio
Barba Navaretti for comments.
1. This literature was largely initiated by the ILOs influential 1972 report
on Kenya. See, e.g., D. Turnham, B. Salome, and A. Schwarz, eds., The Informal
Sector Revisited (Paris: OECD Development Centre, 1990). For a useful survey
of this literature, see H. Lubell, The Informal Sector in the 1980s and 1990s
(Paris: OECD Development Centre, 1991).
2. For example, Hernando de Soto, Constraints on People: The Origin of
Underground Economies and Limits to Their Growth, in Beyond the Informal
Sector: Including the Excluded in Developing Countries, ed. J. Jenkins (San
Francisco: Institute for Contemporary Studies, 1988), pp. 1547.
3. G. Yamada, Urban Informal Employment and Self-Employment in Developing Countries: Theory and Evidence, Economic Development and Cultural Change 44 (1996): 291314; J. Rauch, Modeling the Informal Sector
Formally, Journal of Development Economics 35, no. 1 (1993): 3435.
4. J. Harris and M. Todaro, Migration, Unemployment and Development:
A Two-Sector Analysis, American Economic Review 60, no. 1 (1970): 126
42.
5. This seems to be widely accepted in the empirical literature, though
Kannappan notes that the specific rural-urban spread is narrow when specific
comparisons are made, along with required adjustments (S. Kannappan, Urban Employment and the Labor Market in Developing Nations, Economic Development and Cultural Change 33 [1985]: 709).
6. This differs from the Harris-Todaro formulation. There is a significant
body of criticism concerning the Harris-Todaro simplistic view of workers estimates of the probability of acquiring formal sector employment. G. S. Fields
(Rural-Urban Migration, Urban Unemployment and Underemployment, and
Job-Search Activity in LDCs, Journal of Development Economics 2, no. 2
[1975]: 16587) contends that the probability of securing employment should
be based on labor turnover rates. Others argue that employers do not always
choose workers randomly at the factory gate. The personal characteristics of
each job seeker may play a significant role in determining who is hired. Furthermore, informal networks, including clan corridors, may influence the selection of new workers. While the inclusion of such considerations would enrich
our model, it would not fundamentally affect our analysis.
7. A somewhat similar distinction has been made by G. Nihan, E. Denal,
and J. Comlavi, The Modern Informal Sector in Lome, International Labour
Review 118, no. 5 (1979): 63144; and by G. Fields, Labor Market Modeling
and the Urban Informal Sector: Theory and Evidence, in D. Turnham et al.,
eds., pp. 4469, who differentiated between easy entry and upper-tier
components.
8. In relation to the small and medium scale industrial sector often referred to, we include medium as part of the F-sector and small as part of
VM .
9. W. J. House, Nairobis Informal Sector: Dynamic Entrepreneurs or
Surplus Labor, Economic Development and Cultural Change 32 (1984): 282
83; Kannappan, p. 705.

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Gustav Ranis and Frances Stewart

287

10. House, p. 288.


11. This is a convenient way of depicting production possibilities, although
in reality there is likely to be slack in the system so that VM could readily produce somewhat more of both types of products in response to additional demand.
This issue will be further explored in Section IV.
12. We assume, for convenience, that input-output relationships are such
that the demand for intermediate goods from VMC and VMP is the same irrespective of the VMC-VMP composition of total VM .
13. Other reasons (e.g., the avoidance of taxes and government regulations)
may account for the persistence of the sector even in developed countries.
14. Yamada (n. 3 above), pp. 289314; and A. Portes and R. Schauffer,
Competing Perspectives on the Latin American Informal Sector, Population
and Development Review 19, no. 1 (1993): 3360, share the view that this type
of development is preferable.
15. For evidence on the aggregate size of the sector, see V. E. Tokman,
Politicas para el sector informal en America Latina (Policies for the informal
sector in Latin America), Revista Internacional de Trabajo 9713 (1978): 314; J.
Charmes, A Critical Review of Concepts, Definitions and Studies in the Informal Sector, in Turnham et al., eds. (n. 1 above), pp. 1048; H. Romijn, Dynamism in the Informal Sector in a Fast Growing Economy: The Case of Bangkok
(New Delhi: ILO, Asian Regional Team for Employment Promotion [ARTEP],
1993); ILO/Jobs and Skills Programme for Africa (JASPA), Informal Sector in
Africa (JASPA: Addis Ababa, 1985); Employment Report 1988 (JASPA: Addis
Ababa, 1989); and African Employment Report 1992 (JASPA: Addis Ababa,
1993); A. Aboagye and P. Yankson, Employment in the Urban Informal Sector
in Ghana (Addis Adaba: JASPA, ILO, 1992); C. Peters-Berries, The Urban
Informal Sector in Zimbabwe, Working Paper no. 61 (World Employment Programme, ILO, Geneva, 1993), and The Urban Informal Sector and Structural
Adjustment in Zambia, Working Paper no. 62 (World Employment Programme, ILO, Geneva, 1993); Lubell (n. 1 above); D. Endale, Changing Patterns of Employment and Unemployment in Africa, World Development Studies 7 (United Nations University [UNU], World Institute for Development
Economics Research [WIDER], 1995).
16. See L. Beneria, Subcontracting and Employment Dynamics in Mexico City, pp. 17388; J. Fortuna and S. Prates, Informal Sector versus Informalized Labour Relations in Uruguay, pp. 7894; and B. Roberts, Employment Structure, Life Cycle, and Life Chances: Formal and Informal Sectors in
Guadalajara, pp. 4159, all in The Informal Economy, ed. A. Portes, M.
Castells, and L. Benton (Baltimore: Johns Hopkins University Press, 1989).
17. We should note, however, that the 1975 study of Jakarta showed negligible forward linkages with the formal sector.
18. Nihan, Denal, and Comlavi (n. 7 above).
19. This is testified to by numerous studies; see, e.g., Lubell (n. 1 above);
Turnham et al., eds.
20. I. Smith, R. Saptari, and Maspiyati, Flexible Specialization and
Small-scale Industries: An Indonesian Case Study, World Employment Programme Working Paper no. 245 (Technology and Employment Programme,
ILO, Geneva, 1994); ILO, Sharing in Development: A Programme of Employment, Equity and Growth for the Philippines (Geneva: ILO, 1994); R. T. Shand,
ed., Off-Farm Employment in the Development of Rural Asia: Papers Presented
at a Conference Held in Chiang Mai, Thailand, 23 to 26 August 1983, vols. 1
and 2 (Canberra: National Center for Development Studies, Australian National
University, 1986).
21. In 197880, open male unemployment in the Philippines was 1.6% of

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288

Economic Development and Cultural Change

total urban population, compared with a rate of 1.3% in Thailand. While the
definitions of open unemployment differ, the gap between the two countries increased substantially by 1990, with a rate of 4.2% in the Philippines and 2.9%
in Thailand.
22. Here we are using total urban population as a proxy for the total urban
labor force.
23. Report of the 1984 Industrial Census, Thailand National Statistical Office; Z. R. Abenoja and D. Labid, Barriers to Entry, Market Concentration,
and Wages in the Philippine Manufacturing Sector, 1987, Philippine Review
of Economics and Business 28, no. 2 (1991): 191217.
24. ILO, chap. 5; R. A. Alonzo, The Informal Sector in the Philippines,
in The Silent Revolution: The Informal Sector in Five Asian and Near Eastern
Countries, ed. A. L. Chickering and M. Salahdine (San Francisco: International
Center for Economic Growth, 1991), pp. 3970.
25. Above data from R. Alonzo and M. Alcesitis Abrera-Mangahas, The
Informal Sector in Metro Manila: Findings from a Recent Survey (New Delhi:
ILO, ARTEP, 1994), chap. 2.
26. See S. Hutserani and T. Yongkittikul, Urban Informal Sector Employment: A Survey of Thailand (Bangkok, 1992, draft mimeograph), presented to a workshop at the University of Nagoya, Japan, and referred to in The
Urban Informal Sector in Asia: An Annotated Bibliography, International Labour Bibliography no. 13 (Geneva: ILO, 1992). They estimate it fell from 59%
to 56% of total urban employment. Economic and Social Survey of Asia and the
Pacific (New York: United Nations, 1991) suggests a fall from 49% (in the early
1980s) to 34% (in the mid-1980s).
27. Recent surveys have drawn additional attention to dynamic modernizing elements in Thailands informal sector (H. Romijn, Dynamism in the Informal Sector in a Fast Growing Economy: The Case of Bangkok [New Delhi: ILO,
ARTEP, 1993]; A. T. M. N. Amin, Technology Adaptation in Bangkoks Informal Sector, World Employment Programme (WEP) Working Paper no. 203
[ILO, Geneva, 1989]). Activities included metalworking and electronics, wood
and metal furniture manufacture, garments, umbrella manufacture, and food processing. Enterprises had grown during the 1980s in response to growth in demand. The output of 90% of these enterprises was also produced by the formal
sector. Many had subcontracting relationships with the formal sector. Over half
had modified their techniques during the previous five years; 38% had introduced new products. The average size of the enterprises was relatively large (5.9
workers).
28. Alonzo and Alcesitis Abrera-Mangahas, chap. 2; and P. Phongpaichit,
P. Charsombut, M. Muqtada, and H. Romijn, Urban Self-Employment in Thailand: A Study of Two Districts in Metropolitan Bangkok (New
Delhi: ILO, ARTEP, 1988).
29. T. H. Gindling, Labor Market Segmentation and Determination of
Wages in the Public, Private-Formal, and Informal Sectors in San Jose, Costa
Rica, Economic Development and Cultural Change 39 (1991): 599; E. E. Telles, Urban Labor Market Segmentation and Income in Brazil, Economic Development and Cultural Change 41 (1993): 232, 236.
30. However, this comparison is probably not as stark as it might appear,
since Philippine education is widely considered to be of relatively low quality.

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