Does education matter for informal firms?

Submitted by Mohammad Amin

A lot of work has been done on understanding the impact of human capital or the level of education on economic development (see for example, Barro 1991 and Benhabib and Spiegel 1994). That human capital is important for economic development, at least potentially so, seems fairly non-controversial and obvious. But is it really so?

What about the informal sector that accounts for a large chunk of economic activity in a number of developing countries? According to one estimate, between 23 percent and 35 percent of all economic activity occurs in the informal economy; for countries in the lowest quartile of GDP per capita, the estimates range between 29 percent and 57 percent (La Porta and Shleifer 2008). What can we say about the importance of education for informal firms that are typically very small, operate locally and have limited access to infrastructure and finance? Does education make any difference to such firms?

Using data on informal or unregistered firms in Argentina and Peru collected by the Enterprise Analysis Unit in 2010, I put together some answers to the questions above in a short note. The note finds some differences across informal firms depending on the education level of the owner of the firm but these differences are limited to only some firm characteristics. A summary of the main findings of the note is as follows:

“A recent survey of unregistered or informal firms in Argentina and Peru shows that about 74 percent of the owners have at least secondary or higher education. This note compares firms by the education level of the owners to assess how education affects the structure, conduct and performance of informal firms. The results show a limited impact of education. Firm-efficiency as measured by sales per worker rises sharply with the level of education of the owner and the same holds for firm-size as measured by monthly sales or employment. Firms with relatively more educated owners are more likely to use external sources of finance, cell phones and in some cases show greater inclination to register, work on contract basis and maintain business accounts separate from household accounts. However, in other dimensions—such as the use of machinery and vehicles—there is no significant difference between firms by the education level of the owner of the firm.”