In a latest NBER working paper, McCaig and Pavcnik (2021) present several stylized facts about entry and exit of informal firms using a nationally representative panel data from Vietnam.
Most informal firms are often operated only by the owner. Lower wealth and aggregate productivity tend to correlate with smaller average firm size. With economic development, average firm size also increases as self-employed entrepreneurs seek wage opportunities (so informal business is a necessity in part affected by lack of other employment opportunities). It indicates that self-employment decreases and size of firms increases with economic development. Other causes of smaller firms include imperfections in capital markets, barriers to hiring labor, cost of registration and formalization, and lack of business training.
Major highlights/excerpts from the working paper:
First, informal businesses exhibit rates of entry and exit around 14-18% annually. Entry and exit rates are similar and highly correlated at a point in time, within industries, and within regions. They both decline over time and across space with economic development.
Second, although market selection influences which firms survive, entry and exit has little net effect on aggregate (revenue) productivity or hiring of workers outside the household. This owes to overlapping labor productivity of entering and exiting firms and low subsequent productivity growth and hiring among the surviving entrants. Almost half of the entrants exit within two years and the surviving entrants do not significantly improve their performance over time or begin to hire paid workers. This could be due to market-selection, but also due to owner-specific characteristics and shocks, alternative employment options, and household-specific shocks. Business exit and entry is associated with large decreases and increases, respectively, in individual and household income.
Third, the large overlap in revenue of entering and exiting informal businesses and the high correlation between entry and exit rates are related to the education and economic activities (self-employment, wage work or just outside of the workforce) of business owners prior to starting, or after closing down, an informal business. Informal business owners are less educated on average than wage workers in the formal sector, but more educated than agricultural workers. Entering and exiting owners have very similar levels of education.
Fourth, the transitions in and out of operating an informal business reflect the underlying structure of economic activities of the working age population, with education gaps also playing a role. About one-third of informal non-farm business entrants and exiters transition to and from self-employment in agriculture. However, the likelihood of this transition declines with economic development, highlighting the role of net entry from agriculture into informal non-farm businesses in structural change.
