Lessons on Economic Growth from the Informal Economy, with Robert Nason

What does the word “entrepreneurship” immediately bring to mind? Risk and reward, innovation and hard work, funding and financial growth, filling gaps in the market? In truth, that answer looks different around the world, in both formal and informal economies, depending on how the local, state, and national economies function and how the culture views business ownership.

In a formal economy, entrepreneurs are beholden to multiple institutions that shape how business is done. In an informal economy, typically found in developing nations but also in pockets in more affluent countries, entrepreneurs answer to different criteria—being an entrepreneur often depends more on community and extended family than on banks and professional associations.

On the Delve podcast, Desautels Professor Robert Nason discusses informal economies and the institutions that shape them. He points out what has been missed in how Western economic thought defines entrepreneurial growth, and what can be learned from the less rigid, arguably more inclusive nature of informal economies.

“Markets take different shapes and sizes—you have to appreciate those differences in order to understand how organizations compete, how to lead people in those contexts, what’s going to motivate them, what’s going to resonate with people,” says Nason. “What we need is a more decolonizing approach that gets away from imposing our implicit biases and assumptions on other places and towards understanding them on their own terms. Through that, you’ll have a better appreciation for what organizations and people need to grow and succeed and thrive along whatever dimensions they find most important.”

Where informal economies thrive

Beyond stereotypes of cash-only marketplaces and underground dealings, Nason’s recent research defines the informal economy as economic activity with the absence of legal or state regulatory institution: “You can think of it as unregistered business activity,” says Nason, adding that it’s typically economic activity that’s socially acceptable and appreciated, even if some of it may be technically illegal. “In this case, we’re not talking about what others have called the renegade economy or any dark and disturbing economic activity.”

Inspired by work they’ve done in Cape Town, South Africa in partnership with a non-profit on sustainable livelihoods, Nason and his co-author Joel Bothello’s paper, Far from Void: How Institutions Shape Growth in the Informal Economy, situates the informal economy within a low-income context or context of poverty, while acknowledging that the informal economy exists everywhere. “If you redo your bathroom and pay your contractors cash you’re participating in the informal economy,” says Nason, “but it’s most prevalent in low-income countries where you have individuals who might even prefer to get a stable job, but go into entrepreneurship as a way to provide for their family.”

Growth occurs in different ways.

Nason critiques the accepted academic and Western view of informal economies lacking a certain type of economic growth at the firm level. “Let’s understand the informal economy on its own terms, understand the institutions that do exist there, then you will see the different kinds of growth that they have,” Nason explains. “It’s about shifting the nature and the kind of institutions that you’re looking at, and that then leads you to realize that growth occurs in different ways.”

Growth in the so-called void

Informal economies show forms of economic growth that look different because they reflect both market and non-market institutions that influence entrepreneurship in a given place, such as family, religion, and community. Since informal economies don’t have well-developed market and legal regulatory institutions, they’ve been characterized as institutional voids.

“Institutional voids in the academic literature has become essentially an academic euphemism for what Donald Trump called shithole countries,” says Nason. “It’s become a rather disparaging characterization of a different way of doing things in a different institutional environment… But that’s because they don’t really understand what’s happening there.”

Nason says that what is missing from the current understanding of entrepreneurship and economic growth is an appreciation for the variety of ways in which growth occurs. “There are different ways that growth can occur, and we need to understand more diversity around that,” says Nason. His paper proposes three different types of growth: direct growth (such as a firm scaling up), dispersed growth (such as a micro-diversification strategy or even side hustles), and disguised growth (which is intentionally concealed either from community or government).

In an informal economy, entrepreneurs don’t raise capital in the same way as Western entrepreneurs, but instead depend on personal resources, family, and friends. In fact, in some places, showing obvious or audacious markers of success simply isn’t acceptable, so growth is disguised.

“In general, there’s not one type of entrepreneur; there’s also not one type of informal economy entrepreneur,” explains Nason. “You do see quite a bit of innovation. Some end up developing quite sophisticated businesses, even technology-oriented businesses. Others, we might think of night markets or somewhere else with people selling their wares and goods. Some run shops, bars, or distribute wholesale goods and services. They don’t necessarily fit into the traditional, standard industrialized codes of how we would categorize businesses here, but certainly they’re in all kinds of sectors.”

To formalize or not—who benefits?

Institutionally formalizing an informal economy might benefit some entrepreneurs and add a level of legality, state control, and taxation where disguised growth was negatively affecting an economy, but not every entrepreneur will survive such a change.

“When you take that approach, what you’re doing is further marginalizing some of already the most marginalized people in a way that’s not productive,” says Nason. “I think that orientation should be, how do we make it more compelling for entrepreneurs to formalize? How do we make it so that it’s worth it for them?”

He adds that by and large, it doesn’t make sense to formalize much of the informal, economic activity in impoverished areas. “It still plays a vital role: statistics from Cape Town show that informal economy reduces the poverty level by 5%, meaning that 5% of people would be in poverty if it weren’t for the informal economy,” says Nason. “It’s playing this role of helping people survive and get by, and it needs to be appreciated for that.”

The informal economic is also a sandbox for experimentation in entrepreneurial activity, he adds, with some businesses starting out informal and growing into very successful businesses that create more jobs and change many people’s lives. “That is the way that informal economy can be approached—a little bit differently and helped along to have a productive impact.”

For more insights, listen to the podcast with Professor Robert Nason.

This episode of the Delve podcast is produced by Delve and Robyn Fadden. Original music by Saku Mantere.

Delve is the official thought leadership platform of McGill University’s Desautels Faculty of Management. Subscribe to the Delve podcast on all major podcast platforms, including Apple podcasts and Spotify, and follow Delve on LinkedIn, Facebook, Twitter, Instagram, and YouTube.