The Unofficial Economy and Economic Development

Andrei Shleifer and

AS

Andrei Shleifer

Rafael La Porta

RLP

Rafael La Porta Dartmouth College

Discussants: Charles I. Jones and

Charles I. Jones Stanford University

William D. Nordhaus

WDN

William D. Nordhaus

In developing countries, informal firms account for up to about
half of all economic activity. Using data from World Bank firm-level surveys,
we find that informal firms are small and extremely unproductive compared
with even the small formal firms in the sample, and especially relative to the
larger formal firms. Formal firms are run by much better educated managers
than informal ones and use more capital, have different customers, market
their products, and use more external finance. Few formal firms have ever operated
informally. This evidence supports the dual economy (“Wal-Mart”) theory
of development, in which growth comes about from the creation of highly productive
formal firms. Informal firms keep millions of people alive but disappear
as the economy develops.