Rethinking Formalization: The WIEGO Perspective

Formalization of the informal economy can take different forms: registration, taxation, organization and representation, legal and social protection, business incentives and support, and more. Formalization also means different things to different categories of the informal workforce. What is required is an approach to formalization of the informal economy which is comprehensive in design but context-specific in practice.

A comprehensive design for formalizing the informal economy is outlined in Box 1:

Box 1
Formalization of the Informal Economy: A Comprehensive Approach

1. Formalization of Informal Enterprises

  • registration and taxation:
    • simplified registration procedures
    • progressive registration fees
  • appropriate legal and regulatory frameworks, including:
    • enforceable commercial contracts
    • private property rights
    • use of public space
  • benefits of operating formally:
    • access to finance and market information
    • access to public infrastructure and services
    • enforceable commercial contracts
    • limited liability
    • clear bankruptcy and default rules
    • access to government subsidies and incentives, including procurement bids and export promotion packages
    • membership in formal business associations
    • access to a formal system of social security

2. Formalization of Informal Jobs

  • legal recognition and protection as workers
  • rights and benefits of being formally employed:
    • freedom from discrimination
    • minimum wage
    • occupational health and safety measures
    • employer contributions to health and pensions
    • right to organize and bargain collectively
    • membership in formal trade unions

In formalizing specific groups of informal workers, policymakers and practitioners should choose appropriate elements from this framework and tailor interventions to meet local circumstances.

Consider, for example, the specific conditions of several informal occupations in which large numbers of the working poor, especially women, tend to be concentrated:

Agricultural Export Workers

In Latin American and (less so) Africa, there has been a notable increase in women agricultural workers in the non-traditional agro-export sectors: specifically, in the production and packaging of fresh flowers, fruit, and vegetables (Barrientos and Barrientos 2002, Barrientos et al. 2004).

What are the common problems of women workers in these agro-export sectors?

  • temporary contracts
  • uncertain days and hours of work: associated with “flexible” contracts
  • piece-rate payments and low wages
  • occupational segregation by gender (especially in packing houses)

What kind of formalization would these agricultural workers want?

  • permanent contracts
  • regular days and hours of work
  • wage payments and higher wages
  • opportunities to shift to better-paid work within occupation

Construction Workers

In many developing countries, where the industry has not been mechanized, the construction workforce is comprised largely of casual day labourers, often migrants. Many such construction workers are unskilled and engaged in lifting and carrying loads of cement, bricks, and concrete. In some countries, depending on local social norms, women represent a significant share of the unskilled construction workforce.

What are the common problems of unskilled construction workers?

  • irregular days of work
  • low and erratic earnings
  • arduous and hazardous work: frequent accidents and occasional deaths
  • lack of occupational health and safety measures
  • lack of accident or disability insurance

What would formalization mean to construction workers?

  • more regular work
  • higher wages
  • skills training: masonry, carpentry, and other construction skills
  • safety regulations
  • accident insurance and workers’ compensation
  • ID cards
  • registers or other proof of days of work

Homeworkers

Homeworkers are sub-contracted workers or industrial outworkers who work under a sub-contract for one or more firms and their contractors. Whether in the garment, shoe, or electronic sectors, homeworkers face a number of common problems:

  • low piece-rates and earnings
  • irregularity of work
  • irregular and (often) delayed payments
  • costs of providing/maintaining workspace, utilities, and equipment

In addition, some endure harsh or dangerous working conditions: for example, shoe makers are exposed to toxic glues. Many also suffer sore backs and deteriorating eye sight from working in badly-equipped and poorly-lit workplaces (often their own homes).

What would formalization mean for homeworkers?

  • regular, secure, and enforceable work orders
  • regular and timely payments
  • piece rates that are equivalent to minimum wages
  • occupational health and safety measures
  • capital to improve their workspace (often their home) and upgrade their equipment
  • basic infrastructural services – water, electricity, and sanitation – to improve their homes-as-workplaces

Street Vendors

The common problems faced by street vendors around the world include:

  • insecure place of work: due to competition for urban space
  • capital on unfair terms: due to dependence on wholesale traders
  • uncertain quantity, quality, and price of goods: due to dependence on wholesale traders
  • lack of infrastructure: shelter, water, sanitation
  • ambiguous legal status: leading to harassment, evictions, and bribes
  • negative public image

What would formalization mean for street vendors?

  • secure vending sites
  • access to capital on fair terms: a loan product tailored to their daily need for working capital
  • bargaining power with wholesale traders
  • infrastructure services at vending sites: shelter, water, sanitation
  • license to sell and identity cards
  • freedom from harassment, evictions, and bribes
  • positive public image

Waste Pickers

It is estimated that one per cent of the world’s urban population lives off collecting and recycling waste. Waste pickers commonly suffer:

  • very low average earnings
  • fluctuations in quantity, quality, and price of waste
  • harsh working conditions and related occupational hazards
  • negative public image

In communities where both women and men (and children) collect waste, women (and children) often sort the waste – thus adding to their exposure to the waste and associated health risks – while the men sell the waste. Since they have to move around different neighbourhoods to collect waste, women (and girls) face teasing, touching, and other forms of sexual harassment (Paula Kantor, personal communication 2005).

Given these conditions, many waste pickers would like to find alternative employment opportunities. This can be done within the waste recycling sector by training them in waste-recycling skills or by organizing them into cooperatives and negotiating contracts for these cooperatives to provide cleaning services to or collect waste from government and private offices or institutions.

What would formalization mean for those who continue to work as waste pickers?

  • legal recognition and positive public image as waste pickers (who contribute to the upkeep and cleanliness of the cities they work in)
  • ID cards to protect them
  • bargaining mechanisms to negotiate with a) those to whom they sell the waste they collect and b) municipal officials and police
  • organization and bargaining power
  • appropriate implements and protective gear (gloves and aprons) to help them avoid dangerous and toxic waste

Challenges to Formalization

Implementing a comprehensive yet context-specific approach to formalization will not be easy or straightforward. Among the key policy challenges facing such an approach are what to do about informal employers. Many informal wage workers work for informal firms. The policy challenge is whether and how to make informal employers comply with labour regulations and offer their employees formal benefits and protections. This is what the ILO has referred to as “the dilemma of the informal sector” (ILO 1991). It is genuinely difficult for many informal employers to offer legal benefits and protections to their employees at their present level of operations and profits. This suggests that formalization may need to be sequenced as follows: by first providing incentives and benefits to informal enterprises that register and then progressively enforcing compliance with taxation and labour regulations (ILO 1991, Tendler 2002). But available evidence suggests that many informal employers are not poor (Chen et al. 2004, 2005). For this more entrepreneurial class of informal operators, the issue is less whether they are able to comply with commercial and employment regulations than whether they are willing to comply.

Another related challenge is what to do about formal employers who hire workers under informal employment relations or sub-contract production to a chain of suppliers. Faced with global competition, formal firms or employers often prefer to hire workers under flexible contracts or to outsource or sub-contract production. In today’s global production system, suppliers are often small informal enterprises who, in turn, hire workers under informal contracts or sub-contracts. Hence, for producers of labour-intensive products, such as garments, who operate in global markets where demand is sensitive to price, there needs to be simultaneous change in all countries, otherwise they will be squeezed out of the market if they are the only ones to have to increase their prices as a result of meeting higher labour costs.

In sum, both formal firms and larger informal firms need a special package of incentives and sanctions to encourage them to provide benefits and protections to their workers. Admittedly, there is the risk of offering unnecessary incentives for them to extend benefits/protections to their workers or creating perverse incentives for them to continue to deny benefits/protection to their workers. But, this risk notwithstanding, appropriate labour standards and social protection can and should be developed for informal wage workers through tripartite negotiations, including employers (formal or informal), the government, and informal workers. The Self-Employed Women’s Association (SEWA), the well-known trade union of women informal workers in India, has effectively negotiated with the government and employers/contractors to obtain wage increases, annual bonuses, health benefits, and/or pension contributions for a wide range of informal workers, including: day labourers in construction and agriculture; and industrial outworkers who produce garments, embroidered goods, incense sticks, and bidis (cigarettes) at home.

Those who run single person or family businesses present a different kind of challenge. First, they do not hire workers. Second, they often earn so little that they fall into the lowest tax brackets. What are burdensome to these operators are the bureaucratic regulations and fees related to registering their businesses. For them, formalization requirements need to be made simpler and less costly through, for instance, a single-window registry system and differentiated registration fees (that is, depending on the size, output, or location of their enterprises). For them, formalization should be seen as an incremental process that begins by introducing appropriate incentives and benefits of formality and, then, progressively enforces compliance with the costs and regulations associated with operating formally. This would create the conditions under which the working poor in the informal economy would be entitled to the benefits of formality while, at the same time, being enabled to comply with the duties of formality.

Limits to Formalization

As outlined above, formalization of the informal economy can and should take different forms, including: creating incentives for the informal self-employed to register their enterprises and benefits for them once they do; and creating a mix of incentives and sanctions for employers, both formal and informal, to extend benefits to their informal workers.

However, the limits to formalization need to be understood. First, it should be recognized that formalization is not a one-time process involving a specified set of steps. Rather, formalization should be seen as a gradual on-going process involving incremental steps and different dimensions leading towards varying degrees and types of formality. Second, it should be recognized that formalization will not proceed quickly or automatically for all those who choose to formalize. The bureaucratic procedures and incentives for registered informal businesses need to be retooled and streamlined. Labour standards and benefits for informal workers need to be carefully negotiated by employers, workers, and government. Third, it should be recognized that formalization will not be feasible or desirable for all informal enterprises or all informal wage workers. Rather, it should be assumed that many informal enterprises and informal wage workers will remain informal or semi-formal for the foreseeable future. In other words, informality – in varying degrees and forms – is here to stay.

Other fundamental challenges, then, are to create more formal employment opportunities, to decrease the costs and risks, and to increase the benefits of those who continue to operate informally or semi-formally.