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Harnessing the hidden enterprise culture: Colin Williams reports on an innovative local-level policy measure to bring those working in the informal economy into the legitimate realm.

JUSTIN IS PRECISELY the type of person that the Local Enterprise Growth Initiative (LEGI) wants to nurture. Having left school at 16 years of age to set up his own car valet business, three years on, and after much hard work, he is by all accounts now a successful entrepreneur. He employs three people and has a rapidly growing portfolio of clients that includes not just domestic customers but a wide range of commercial contracts with garages and second-hand car dealers.

Justin, however, is unlikely to be heralded by government as a 'super hero' entrepreneur because, like many others starting-up successful enterprises, he conducts a large proportion of his business on an off-the-books basis. Although he wants a 'legit' business, he is at present torn between declaring his earnings, not least so that he can get a loan to further expand his business, and continuing to work on a cash-in-hand basis. Justin is not alone in this regard.

A recent survey of business opinion on the extent and impacts of off-the-books work identified that this constitutes a large segment of the UK economy. The 2004/05 Annual Survey of Small Businesses conducted by the Small Business Service asked businesses to estimate the proportion of trade in their sector conducted on an off-the-books basis, along with whether they felt that it was having a negative impact on their own business. (1) The findings provide a unique insight into the extent of the informal economy in the UK and its impacts on businesses.

Based on telephone interviews with 7,505 small businesses, the finding was that one in seven (14 per cent) are negatively affected by off-the-books traders and nearly one in 15 (6.5 per cent) view such cash-in-hand work as having a significant or very significant negative affect on their business. Indeed, when asked about the amount of off-the-books work taking place in their sector, one in six businesses (16 per cent) said that 10 per cent or more of trade in their sector is conducted on a cash-in-hand basis and across all businesses the mean level of trade conducted off-the-books was reported to be 8 per cent.

There were, of course, significant differences across sectors and regions, as well as different types of business. Large proportions of trade in some sectors--such as the construction industry, motor vehicle trade, hotels and restaurants sector, retailing and land transport sectors (which includes taxi operators and furniture removals)--were claimed to be conducted on a cash-in-hand basis. As the table overleaf shows, there were also significant regional variations in the degree to which off-the-books was seen to be prevalent, with business in peripheral rural regions (for example East Wales, the Highlands and Islands) among those claiming to be most affected. And new business start-ups were more likely to be affected by off-the-books work than more established businesses.

The size of this hidden enterprise culture and its negative impacts on businesses has not gone unnoticed. Recognising the amount of entrepreneurship and enterprise in this sector, a 2004 report by the Small Business Council (SBC) (2) recommended that rather than government simply seeking to eradicate such enterprise by wielding large 'sticks' (such as by increasing punishments for those caught and improving detection measures), there is a need to combine sticks with 'carrots' to help these businesses make the transition to the formal economy. This recommendation of combining sticks with carrots was subsequently welcomed by the Chancellor of the Exchequer in his 2004 pre-Budget report as well as in the Government response. (3)

Here, in consequence, one specific policy measure that was recommended in this SBC report and has begun to receive increasing attention and Government support is highlighted. Until now, the perception has perhaps been that cash-in-hand work is a sphere of public policy that needs to be tackled at national government level. The particular policy measure that is now being enthusiastically discussed across the Government, however, is very much a local-level initiative and within the province of local rather than national government. As will become evident, it also very much resonates with the objectives of current funding streams such as the LEGI.

A local-level formalisation service

It is now widely recognised that the kind of business advice and support required by those seeking to transfer their current business ventures into the formal economy is very different from the advice and support required by start-up or growth businesses who wish to go through a formal business planning process. It is also acknowledged that support and advice about how they might resolve their situation is generally not widely available at present to small businesses conducting some or all of their transactions off-the-books. The development of a bespoke 'formalisation service' is therefore viewed as necessary to bridge this gap between the wealth of business advice and support available to formal businesses and its absence for those who operate wholly or partially in the cash-in-hand economy. (4)

Such a transition service could be embedded within the public sector. In the UK, for example, this might occur by extending the HM Revenue & Customs' local business support teams, establishing a separate offshoot of Business Links or extending the remit of Jobcentre Plus advisors. It could also be embedded within an economic development unit or community development unit of a local authority. However, the widespread opinion is that an independent 'third sector' formalisation service is likely to attract more clients than a transition service embedded within state institutions, owing to such a service being seen as relatively detached from the state.

The role of such an independent third sector provider would be to provide business support as well as legal, tax, debt and benefit advisory services that would take a business through each and every step from informality to full formalisation. Its core business would be to help clients take each step in the following areas so as to allow them to progress towards formalisation:

* moving from part-time to full-time work;

* moving from home to business premises;

* keeping basic level records;

* keeping higher-level accounts;

* purchasing public liability and employers' liability insurance;

* hiring employees on a PAYE basis;

* using a bank account for their business transactions and/or opening a separate business bank account;

* obtaining the required licences and permits to operate the business, for example health and safety inspection certificates, driver instructor licence, etc.;

* graduating off all non-work state benefits;

* graduating from majority cash revenues to majority invoiced revenues;

* incurring a formal business tax liability; and

* becoming VAT registered.

To deliver these advisory and support services to clients, a 'formalisation service' will need to provide the following services and products:

* a free-phone informal economy helpline--providing a confidential and anonymous advisory and support service about legitimising activity;

* an online informal economy support service--to provide the same as above but using the internet as a medium for communication;

* an informal economy information pack--pulling existing information together into a short user-friendly pocket-sized booklet would help to communicate options and choices;

* formalisation mentors--using local business people who have already made the transition and provide positive role models to facilitate a change in behaviour; and

* awareness-raising and information campaigns--focused on the risks and costs of cash-in-hand work, and the benefits of formal work, targeted at the customers and suppliers of off-the-books work, either of a general nature and/or targeted at specific sectors where cash-in-hand work predominates; this could be conducted in partnership with, for instance, various private sector trade associations.

To be effective, such formalisation services will need to try to forge partnerships with various national government departments, who could use this service as a 'laboratory' for piloting all manner of initiatives at a local level. For those coming forward to the formalisation service, for example, HM Revenue & Customs might wish to pilot a system whereby, when there is a voluntary disclosure and agreement to adhere to a formalisation plan, this would result in past taxes owed being written-off or at least being treated more leniently than might otherwise be the case. Such experiments with individual-level amnesties have not been tested before and might well encourage many more to come forward to a formalisation service than would otherwise be the case.

There might also be the opportunity for Department for Work and Pensions (DWP) involvement. Such a formalisation service would provide a useful context for DWP to pilot not only modifications to the 'earnings disregard' such as by converting it into a quarterly or annual disregard, but also modifications to DWP's 'test-trading' and 'twin-track' initiatives, so that their effectiveness at encouraging a shift from unemployment into self-employment can be evaluated.

Monitoring and evaluation

Various options exist for monitoring and evaluating such a formalisation service. On the one hand, one could evaluate the service by assessing, for example, how many businesses had approached the service; how many had been helped to move from the informal into the formal economy as a direct result of the initiative; and how many formal jobs had been created. A more refined evaluation might assess the speed at which clients formalised compared with a control group, to display the benefits of this formalisation initiative.

However, the problem with using this client-oriented method for evaluating a formalisation service is that, although it captures the 'direct' impacts, it does not assess the 'indirect' impacts. Evaluating the latter is very important if the overall impacts of such initiatives are to be understood.

In Italy, between 2001 and 2003 a 'regularisation campaign' run at the national level produced 1,794 direct declarations and 3,854 new regularised workers; however, the media coverage associated with the campaign produced a process of 'indirect regularisation' in that between October 2001 and October 2002 (a period of national economic stagnation) 385,000 additional workers registered nationally. Many small businesses were very reluctant to openly declare themselves as trading off-the-books and agree a regularisation plan with the agency (generally seen by businesses as a dangerous form of self-incrimination), but vast numbers did regularise indirectly by deciding to 'go legit' but outside the scheme. In other words, by far the largest impact of this formalisation campaign was the process of 'silent' formalisation that it instigated.

What is therefore required is a 'before' and 'after' survey of the size and impacts of cash-in-hand work, both in the locality in which the formalisation service is operating and in a control group (i.e. in another area where there is no formalisation service). The greater reduction in the size and impacts in the locality can then be attributed to the formalisation initiative.

Benefits from a few carrots

Until now, little has been available to the Justins of this world to help them legitimise their businesses. Instead, all that has been on offer to these entrepreneurial and enterprising people have been sticks to punish them for their 'bad' behaviour. Here, however--and given the size of this hidden enterprise culture--it has been proposed that with a few 'carrots' the energy and talent of these off-the-books entrepreneurs could be harnessed and brought into the legitimate realm. The development of a local-level formalisation service to provide such aid is one prominent means by which this could be achieved. Indeed, funding streams are now available, not least the Local Enterprise Growth Initiative, to allow such a service to be provided.

It is, after all, surely more effective and efficient to bring what is in effect a large and existing, but hidden, enterprise culture into the legitimate realm than to try to encourage those who have displayed no entrepreneurial endeavour to start to do so.


(1) Annual Survey of Small Businesses: UK 2004/05. Small Business Service, Sheffield, 2006

(2) Small Businesses in the Informal Economy: Making the Transition to the Formal Economy. Small Business Council, London, 2004

(3) Government Response to the Small Business Council Report on the Informal Economy. Small Business Service, Sheffield, 2005

(4) C.C. Williams: The Hidden Enterprise Culture: Entrepreneurship in the Underground Economy. Edward Elgar, Cheltenham, 2006

Colin C. Williams is Professor of Strategic Management in the Enterprise and Regional Development Unit (ERDU) at the University of Sheffield Management School. E:
Business opinion on the prevalence of cash-in-hand work

Region                 Responses    Percentage affected by
                                      cash-in-hand work

                                   Negatively  Significantly
                                   affected      affected

England                  2,910        14            44
East Wales                  57        21            56
West Wales & Valleys        89        14            50
Scotland                   190        12            47
Highlands & Islands         38        19            71
Northern Ireland            89        13            35
Total                    3,373        14            44

Region                     Mean
                       percentage of
                        trade cited
                       as conducted

England                      8
East Wales                   9
West Wales & Valleys         7
Scotland                     8
Highlands & Islands         10
Northern Ireland            13
Total                        8

Source: Annual Survey of Small Businesses: UK 2004/05 (1)
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Title Annotation:informal economy
Author:Williams, Colin
Publication:Town and Country Planning
Geographic Code:4EUUK
Date:Jul 1, 2006
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