Revisiting the informal sector: A general equilibrium approach.
The informal sector in an economy, as distinct from the formal/organized sector, has attracted substantial attention in recent times. While it is not a new phenomenon, since the discipline has discussed bits and pieces on informal economics starting with Sir Arthur Lewis (1954), the rejuvenation of interest on informality per se is certainly new. This book, by Sarbajit Chaudhuri and Ujjaini Mukhopadhyay, is quite timely in that sense and particularly because it consolidates sporadic attempts at understanding the theoretical basis of informal economics from a general equilibrium point of view.
In the process, the book delivers many hopes and a bit of frustration for the readers, who without a specific technical expertise would not be able to crunch through the 243 pages of mathematical expressions. Perhaps it is this apprehension that influences the authors to orient the readers with the Heckscher-Ohlin-Samuelson theorems in standard 2 x 2 framework and the 2 x 3 specific factor model, popular in international economics. Both draw on the techniques developed by Ronald W. Jones (1965, 1971). Chapter 2 is entirely devoted to this purpose in addition to observing welfare implications of exogenous shocks in an economy where the informal sector is large.
Similarly, Chapter 3 is a reorientation of the Harris-Todaro (1970) model that is held as the progenitor of subsequent research on informal economics. As applications of this model, the book discusses a number of extensions in the presence of open unemployment (Chapter 4) and subsequently brings in the effect of foreign capital inflow on the informal sector (Chapter 5). This, as one reads through the book and tries to comprehend the wide range of issues, appears somewhat sudden and without an adequate introduction to such treatment. Moreover, the results limit the wide connotation the informal sector carries with it. The dual economy here is essentially characterised by organised--unorganised industrial units and leaves out those beyond it. However, this should provide food for thought for researchers to re-think the appropriate channels through which factors such as foreign capital may actually affect the informal sector. One would also think that the credence of the stories linking the informal sector to various endogenous and exogenous parameters depends to some extent on the empirical facts on the subject. Now, this is evidently deeper water. The informal, sector owing to its clandestine and unrecognised characteristics, which the authors discuss amply in the introduction, generates little statistics and empirical evidence anywhere in the world. And yet, some of the country studies including those available for India (even in their basic forms) could have lent stronger motivations for different contexts in the book--as would similar contributions on the informal sector in general equilibrium with reference to India, by for example Barbara Harris-White and Anusree Sinha (2007).
The issue of foreign capital inflow keeps appearing in subsequent chapters (6 and 7) and other exogenous shocks such as labour market reforms depend critically on its presence. Once again, some idea on how deep the penetration of foreign capital is in relation to informal activities would have been quite useful--both to believe in the implications theoretically and formulate adequate policies. In Chapter 8, the authors discuss the role of foreign capital on the incidence of child labour when poor families working in the informal sector send some of their children to the workforce. Subsequent discussions are based on studies previously published by the authors. But using model straitjackets for critically important issues in developing countries comes with the usual problem of not being close to reality. Basu and Van (1998) have already established that child labour is a result of joint consumption choice at the household level and its incidence is an outcome of consumption falling below the critical level. This is a very plausible story that research in this area must be more attentive to. The effect of foreign capital on child labour, similarly, may find better explanations in such structures.
In comparison, Chapter 9 deals with a topic that has a stronger connection to the informal sector with a wider coverage. The issue of waste management and pollution control in growing cities of the South is as big a problem as it is for those in the North. While developed countries use highly capital-intensive treatment plants and mechanisms, urban municipalities in poor countries still depend mostly on raw labour. And what better can explain informal occupation than people engaged in these activities? As an interesting turn, it models informal presence within otherwise formal institutions, where casual employees and sub-contracting of activities to private informal units creates the dominant organisational form. The first of the two models deals with intermediate goods being produced in the informal sector, which causes pollution. The formal sector buys the intermediate good and is held responsible if the level of pollution in the country shoots up beyond a critical limit. At that point, the formal sector has to pay a tax. If then the government lowers the admissible level of pollution, it (of course, not surprisingly!) raises the level of pollution, but foreign capital inflow helps to lower it. The pertinent question is, are there records, or evidence that a formal sector unit pays pollution tax for purchasing intermediate inputs (without a vertical chain) that is processed by independent informal units? This is not answered here and it is believed that the impossibility of taxing the informal units leads to taxing of the formal final good. Interestingly, an optimal pollution tax may be devised under the circumstances. It would render the post-tax profit for the formal final goods unit (say, makers of leather handbags using supplies from informal tanning units) equal to that when intermediate goods are supplied by formal producers (registered tanning units). It would then be an interesting treatment of the problem at hand, rather than an arbitrary tax imposition that might leave distortionary effects in the economy. These are some of the concerns that the involved reader may draw from the book in general, and contribute towards a better comprehension of the dynamics of the informal sector. This book has offered its share of the critical issues. The challenge remains to explore several other questions and oiler them in as convincing ways as this book does, in many cases.
Basu, K., & Van, P.H. (1998). The economics of child labor. American Economic Review, 88, 412-427.
Harris, J., & Todaro, M. (1970). Migration, unemployment & development: A two-sector analysis. American Economic Review, 60(1), 126-142.
Harris-White, B., & Sinha, A. (2007). Trade liberalization and India's" informal economy. Oxford: Oxford University Press.
Jones, R. (1965). The structure of simple general equilibrium models. Journal of Political Economy, 73, 557-572.
Jones, R.W. (1971). The specific-factor model in trade, theory and history. In J.N. Bhagwati, et al. (Eds.), Trade, balance of payments and growth. Amsterdam: North Holland.
Lewis, W.A. (1954). Economic development with unlimited supplies of labour. Manchester School of Economic and Social Studies, 22, 139-191.
Centre for Studies in Social Sciences,
Calcutta and Amsterdam School of Economics
R-1, Baishnabghata Patuli Township,
Kolkata--700 094, India
[C] 2010, Saibal Kar
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|Publication:||New Zealand Economic Papers|
|Article Type:||Book review|
|Date:||Dec 1, 2010|
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