Understanding the Informal Economy of Pakistan



Student of BS Economics in Quaid i Azam University Islamabad

The informal sector of Pakistan’s economy holds utmost importance due to its immense contribution to the Gross Domestic Product (GDP) of Pakistan. As along with social, political and economic problems, Pakistan also faces the issues of unemployment which is a macro-economic issue due to its wide implications on other economic and social indicators. The informal sector of the economy is doing a great job to provide employment to illiterate, less skilled and even educated people, thus easing unemployment in Pakistan.

As the name indicates, an informal economy is the economy that is not certified or approved. In more technical terms, an informal economy is the part of the economy that is neither taxed nor monitored by any organ of the government. In some countries this term is often synonymous with ‘Grey’, ‘Shadow’ or ‘Underground’ economy. Despite its heavy reliance on the state and foreign aid for the human development services, Pakistan failed to provide sufficient employment opportunities in the formal
sector. On the other hand, the informal economy of Pakistan constitutes a large portion of the total economy. According to the ‘Labour Force Survey report 2008-09’ the informal sector of Pakistan accounts for the 73.3% in main jobs outside the agriculture. The key sectors of employment in the informal economy are the wholesale and retail trade manufacturing, community and personal services, construction and transport.

There are various motives that stimulate mushroom growth of the informal economy in Pakistan. The foremost reason behind the existence of informal economy is low level of education. It is an obstacle to work in a formal economy as the people with low level of education and skills find themselves handicapped in terms of being able to fit in the formal economy. So, there is positive relationship between the informal economy and the lower level of education and skills. Second reason is that the informal sector provides better profitability to the businesses. They seek to elude taxes, pay lesser wages and pay no social security benefits to their workers and hence reduce their costs. High level of public sector corruption is another cause since it results in unreasonably high costs for doing business in the formal economy. Pakistan is among the countries where the level of corruption is at its peak. In 2013, Pakistan scored 127 out of 175 according to the Transparency International. Substantial corruption by government officials specially in the tax and food departments in Pakistan is the main reason that makes informal economy more viable alternative. The last principal factor is the ease of doing business. The World Bank has an index called ‘Ease of Doing Business Index’. According to this report, Pakistan is ranked 110 among 189 countries. The report proves that poor business policies do not provide incentive to the businessmen to work in the formal economy. So there exists a negative relationship between ease of doing business and indulging in the informal economy.

The informal economy also have some drawbacks. It is the byproduct of the lack of good governance in the effective implementation of policies and laws. One issue pertaining to it is that the workers in the informal sector, on average, have to work for sixty hours per week compared to the forty five hours in the formal sector. Secondly, despite working for long hours, the informal sector employees are poorly paid. The average monthly wages of workers are significantly lower than their counterparts in the formal sector. They barely earn ten to fifteen thousands a month. Many employees are not paid during their sickness or emergency leave. Moreover, Workers in the informal economy lack protection of rights and representation and often remain trapped in poverty. The female workers are more vulnerable to the harassment th including sexual harassment and other forms of exploitation since they have little access to the judicial system. The last overriding drawback is fiscal losses. The unregulated and unregistered enterprises do not often pay taxes. They do not contribute to the tax system. Their non-taxed activities can deprive the government of public revenue thereby limiting government’s ability to produce social services.

It should be borne in mind that there is no magic stick available to transform the thriving informal economy into a productive, formal, organized economy overnight but it is a doable task. Transition towards the formal sector can be enhanced through extended opportunities of education and training by constructing formal training institutions that are easily accessible. Emphasis should be placed on investing in people. In addition to this, simplification in rules and regulations of registration and taxation and minimization of registration costs is needed. So that the people with low capital do not hesitate a formal business and do not get upset with the complex regulations system.

It is concluded that, it is unwise and rough to completely eliminate the informal sector of Pakistan since it is still a developing nation inheriting loads of internal and external panics already. Since a large portion of population in Pakistan is illiterate or less educated, poor and less skilled, it is the informal sector that hosts most of these individuals under its shadow. It also fills the gap between the large number of labor force and small number of jobs in the formal sector of economy. So, both the informal and formal sectors of economy are essential to exist in Pakistan until Pakistan is developed enough to address to ills like nepotism, unemployment and inadequate trained human capital. As per policy suggestions, the informal sector of the economy could be reformed by introducing labor friendly laws like setting minimum wages or fixing the amount of hours/time that labors work, so that the workers in the informal economy are not exploited. Government should also intervene for the elimination of employment of children less than fourteen years of age through the combination of strong legislation and labour extension services.